Financial Statements - Microsoft Corporation (MSFT) - All Years

Years: 2018, 2019, 2020, 2021, 2022

YEAR 2022

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

INCOME STATEMENTS

 

(In millions, except per share amounts)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2022

 

 

2021

 

 

2020

 

 

 

 

 

Revenue:

 

 

 

 

 

 

 

 

 

 

 

 

Product

 

$

72,732

 

 

$

71,074

 

 

$

68,041

 

Service and other

 

 

125,538

 

 

 

97,014

 

 

 

74,974

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total revenue

 

 

198,270

 

 

 

168,088

 

 

 

143,015

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cost of revenue:

 

 

 

 

 

 

 

 

 

 

 

 

Product

 

 

19,064

 

 

 

18,219

 

 

 

16,017

 

Service and other

 

 

43,586

 

 

 

34,013

 

 

 

30,061

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total cost of revenue

 

 

62,650

 

 

 

52,232

 

 

 

46,078

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross margin

 

 

135,620

 

 

 

115,856

 

 

 

96,937

 

Research and development

 

 

24,512

 

 

 

20,716

 

 

 

19,269

 

Sales and marketing

 

 

21,825

 

 

 

20,117

 

 

 

19,598

 

General and administrative

 

 

5,900

 

 

 

5,107

 

 

 

5,111

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating income

 

 

83,383

 

 

 

69,916

 

 

 

52,959

 

Other income, net

 

 

333

 

 

 

1,186

 

 

 

77

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Income before income taxes

 

 

83,716

 

 

 

71,102

 

 

 

53,036

 

Provision for income taxes

 

 

10,978

 

 

 

9,831

 

 

 

8,755

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

$

72,738

 

 

$

61,271

 

 

$

44,281

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Earnings per share:

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

$

9.70

 

 

$

8.12

 

 

$

5.82

 

Diluted

 

$

9.65

 

 

$

8.05

 

 

$

5.76

 

 

 

 

 

Weighted average shares outstanding:

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

 

7,496

 

 

 

7,547

 

 

 

7,610

 

Diluted

 

 

7,540

 

 

 

7,608

 

 

 

7,683

 

 

 

 

Refer to accompanying notes.

 

57


PART II

Item 8

 

 

COMPREHENSIVE INCOME STATEMENTS

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2022

 

 

2021

 

 

2020

 

 

 

 

 

Net income

 

$

72,738

 

 

$

61,271

 

 

$

44,281

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other comprehensive income (loss), net of tax:

 

 

 

 

 

 

 

 

 

 

 

 

Net change related to derivatives

 

 

6

 

 

 

19

 

 

 

(38

)

Net change related to investments

 

 

(5,360

)

 

 

(2,266

)

 

 

3,990

 

Translation adjustments and other

 

 

(1,146

)

 

 

873

 

 

 

(426

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other comprehensive income (loss)

 

 

(6,500

)

 

 

(1,374

)

 

 

3,526

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Comprehensive income

 

$

66,238

 

 

$

59,897

 

 

$

47,807

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Refer to accompanying notes.

 

 

 

58


PART II

Item 8

 

 

BALANCE SHEETS

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

June 30,

 

2022

 

 

2021

 

 

 

 

Assets

 

 

 

 

 

 

 

 

Current assets:

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

13,931

 

 

$

14,224

 

Short-term investments

 

 

90,826

 

 

 

116,110

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total cash, cash equivalents, and short-term investments

 

 

104,757

 

 

 

130,334

 

Accounts receivable, net of allowance for doubtful accounts of $633 and $751

 

 

44,261

 

 

 

38,043

 

Inventories

 

 

3,742

 

 

 

2,636

 

Other current assets

 

 

16,924

 

 

 

13,393

 

 

 

 

 

 

 

 

 

 

 

 

 

Total current assets

 

 

169,684

 

 

 

184,406

 

Property and equipment, net of accumulated depreciation of $59,660 and $51,351

 

 

74,398

 

 

 

59,715

 

Operating lease right-of-use assets

 

 

13,148

 

 

 

11,088

 

Equity investments

 

 

6,891

 

 

 

5,984

 

Goodwill

 

 

67,524

 

 

 

49,711

 

Intangible assets, net

 

 

11,298

 

 

 

7,800

 

Other long-term assets

 

 

21,897

 

 

 

15,075

 

 

 

 

 

 

 

 

 

 

 

 

 

Total assets

 

$

364,840

 

 

$

333,779

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Liabilities and stockholders’ equity

 

 

 

 

 

 

 

 

Current liabilities:

 

 

 

 

 

 

 

 

Accounts payable

 

$

19,000

 

 

$

15,163

 

Current portion of long-term debt

 

 

2,749

 

 

 

8,072

 

Accrued compensation

 

 

10,661

 

 

 

10,057

 

Short-term income taxes

 

 

4,067

 

 

 

2,174

 

Short-term unearned revenue

 

 

45,538

 

 

 

41,525

 

Other current liabilities

 

 

13,067

 

 

 

11,666

 

 

 

 

 

 

 

 

 

 

 

 

 

Total current liabilities

 

 

95,082

 

 

 

88,657

 

Long-term debt

 

 

47,032

 

 

 

50,074

 

Long-term income taxes

 

 

26,069

 

 

 

27,190

 

Long-term unearned revenue

 

 

2,870

 

 

 

2,616

 

Deferred income taxes

 

 

230

 

 

 

198

 

Operating lease liabilities

 

 

11,489

 

 

 

9,629

 

Other long-term liabilities

 

 

15,526

 

 

 

13,427

 

 

 

 

 

 

 

 

 

 

 

 

 

Total liabilities

 

 

198,298

 

 

 

191,791

 

 

 

 

 

 

 

 

 

 

 

 

 

Commitments and contingencies

 

 

 

 

 

 

 

 

Stockholders’ equity:

 

 

 

 

 

 

 

 

Common stock and paid-in capital – shares authorized 24,000; outstanding 7,464 and 7,519

 

 

86,939

 

 

 

83,111

 

Retained earnings

 

 

84,281

 

 

 

57,055

 

Accumulated other comprehensive income (loss)

 

 

(4,678

)

 

 

1,822

 

 

 

 

 

 

 

 

 

 

 

 

 

Total stockholders’ equity

 

 

166,542

 

 

 

141,988

 

 

 

 

 

 

 

 

 

 

 

 

 

Total liabilities and stockholders’ equity

 

$

364,840

 

 

$

333,779

 

 

 

 

 

 

 

 

 

 

 

Refer to accompanying notes.

 

59


PART II

Item 8

 

 

CASH FLOWS STATEMENTS

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2022

 

 

2021

 

 

2020

 

 

 

 

 

Operations

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

$

72,738

 

 

$

61,271

 

 

$

44,281

 

Adjustments to reconcile net income to net cash from operations:

 

 

 

 

 

 

 

 

 

 

 

 

Depreciation, amortization, and other

 

 

14,460

 

 

 

11,686

 

 

 

12,796

 

Stock-based compensation expense

 

 

7,502

 

 

 

6,118

 

 

 

5,289

 

Net recognized gains on investments and derivatives

 

 

(409

)

 

 

(1,249

)

 

 

(219

)

Deferred income taxes

 

 

(5,702

)

 

 

(150

)

 

 

11

 

Changes in operating assets and liabilities:

 

 

 

 

 

 

 

 

 

 

 

 

Accounts receivable

 

 

(6,834

)

 

 

(6,481

)

 

 

(2,577

)

Inventories

 

 

(1,123

)

 

 

(737

)

 

 

168

 

Other current assets

 

 

(709

)

 

 

(932

)

 

 

(2,330

)

Other long-term assets

 

 

(2,805

)

 

 

(3,459

)

 

 

(1,037

)

Accounts payable

 

 

2,943

 

 

 

2,798

 

 

 

3,018

 

Unearned revenue

 

 

5,109

 

 

 

4,633

 

 

 

2,212

 

Income taxes

 

 

696

 

 

 

(2,309

)

 

 

(3,631

)

Other current liabilities

 

 

2,344

 

 

 

4,149

 

 

 

1,346

 

Other long-term liabilities

 

 

825

 

 

 

1,402

 

 

 

1,348

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net cash from operations

 

 

89,035

 

 

 

76,740

 

 

 

60,675

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Financing

 

 

 

 

 

 

 

 

 

 

 

 

Cash premium on debt exchange

 

 

0

 

 

 

(1,754

)

 

 

(3,417

)

Repayments of debt

 

 

(9,023

)

 

 

(3,750

)

 

 

(5,518

)

Common stock issued

 

 

1,841

 

 

 

1,693

 

 

 

1,343

 

Common stock repurchased

 

 

(32,696

)

 

 

(27,385

)

 

 

(22,968

)

Common stock cash dividends paid

 

 

(18,135

)

 

 

(16,521

)

 

 

(15,137

)

Other, net

 

 

(863

)

 

 

(769

)

 

 

(334

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net cash used in financing

 

 

(58,876

)

 

 

(48,486

)

 

 

(46,031

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Investing

 

 

 

 

 

 

 

 

 

 

 

 

Additions to property and equipment

 

 

(23,886

)

 

 

(20,622

)

 

 

(15,441

)

Acquisition of companies, net of cash acquired, and purchases of intangible and other assets

 

 

(22,038

)

 

 

(8,909

)

 

 

(2,521

)

Purchases of investments

 

 

(26,456

)

 

 

(62,924

)

 

 

(77,190

)

Maturities of investments

 

 

16,451

 

 

 

51,792

 

 

 

66,449

 

Sales of investments

 

 

28,443

 

 

 

14,008

 

 

 

17,721

 

Other, net

 

 

(2,825

)

 

 

(922

)

 

 

(1,241

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net cash used in investing

 

 

(30,311

)

 

 

(27,577

)

 

 

(12,223

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Effect of foreign exchange rates on cash and cash equivalents

 

 

(141

)

 

 

(29

)

 

 

(201

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net change in cash and cash equivalents

 

 

(293

)

 

 

648

 

 

 

2,220

 

Cash and cash equivalents, beginning of period

 

 

14,224

 

 

 

13,576

 

 

 

11,356

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash and cash equivalents, end of period

 

$

13,931

 

 

$

14,224

 

 

$

13,576

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Refer to accompanying notes.

60


PART II

Item 8

 

STOCKHOLDERS’ EQUITY STATEMENTS

 

(In millions, except per share amounts)

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2022

 

 

2021

 

 

2020

 

 

 

 

 

Common stock and paid-in capital

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

$

83,111

 

 

$

80,552

 

 

$

78,520

 

Common stock issued

 

 

1,841

 

 

 

1,963

 

 

 

1,343

 

Common stock repurchased

 

 

(5,688

)

 

 

(5,539

)

 

 

(4,599

)

Stock-based compensation expense

 

 

7,502

 

 

 

6,118

 

 

 

5,289

 

Other, net

 

 

173

 

 

 

17

 

 

 

(1

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

 

86,939

 

 

 

83,111

 

 

 

80,552

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Retained earnings

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

 

57,055

 

 

 

34,566

 

 

 

24,150

 

Net income

 

 

72,738

 

 

 

61,271

 

 

 

44,281

 

Common stock cash dividends

 

 

(18,552

)

 

 

(16,871

)

 

 

(15,483

)

Common stock repurchased

 

 

(26,960

)

 

 

(21,879

)

 

 

(18,382

)

Cumulative effect of accounting changes

 

 

0

 

 

 

(32

)

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

 

84,281

 

 

 

57,055

 

 

 

34,566

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Accumulated other comprehensive income (loss)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

 

1,822

 

 

 

3,186

 

 

 

(340

)

Other comprehensive income (loss)

 

 

(6,500

)

 

 

(1,374

)

 

 

3,526

 

Cumulative effect of accounting changes

 

 

0

 

 

 

10

 

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

 

(4,678

)

 

 

1,822

 

 

 

3,186

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total stockholders’ equity

 

$

166,542

 

 

$

141,988

 

 

$

118,304

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash dividends declared per common share

 

$

2.48

 

 

$

2.24

 

 

$

2.04

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Refer to accompanying notes.

 

61


PART II

Item 8

 

 

NOTES TO FINANCIAL STATEMENTS

NOTE 1 — ACCOUNTING POLICIES

Accounting Principles

Our consolidated financial statements and accompanying notes are prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”).

We have recast certain prior period amounts to conform to the current period presentation. The recast of these prior period amounts had no impact on our consolidated balance sheets, consolidated income statements, or consolidated cash flows statements.

Principles of Consolidation

The consolidated financial statements include the accounts of Microsoft Corporation and its subsidiaries. Intercompany transactions and balances have been eliminated.

Estimates and Assumptions

Preparing financial statements requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue, and expenses. Examples of estimates and assumptions include: for revenue recognition, determining the nature and timing of satisfaction of performance obligations, and determining the standalone selling price (“SSP”) of performance obligations, variable consideration, and other obligations such as product returns and refunds; loss contingencies; product warranties; the fair value of and/or potential impairment of goodwill and intangible assets for our reporting units; product life cycles; useful lives of our tangible and intangible assets; allowances for doubtful accounts; the market value of, and demand for, our inventory; stock-based compensation forfeiture rates; when technological feasibility is achieved for our products; the potential outcome of uncertain tax positions that have been recognized in our consolidated financial statements or tax returns; and determining the timing and amount of impairments for investments. Actual results and outcomes may differ from management’s estimates and assumptions due to risks and uncertainties.

In July 2022, we completed an assessment of the useful lives of our server and network equipment. Due to investments in software that increased efficiencies in how we operate our server and network equipment, as well as advances in technology, we determined we should increase the estimated useful lives of both server and network equipment from four years to six years. This change in accounting estimate will be effective beginning fiscal year 2023. We had previously increased the estimated useful lives of both server and network equipment in July 2020.

Foreign Currencies

Assets and liabilities recorded in foreign currencies are translated at the exchange rate on the balance sheet date. Revenue and expenses are translated at average rates of exchange prevailing during the year. Translation adjustments resulting from this process are recorded to other comprehensive income.

Revenue

Product Revenue and Service and Other Revenue

Product revenue includes sales from operating systems, cross-device productivity applications, server applications, business solution applications, desktop and server management tools, software development tools, video games, and hardware such as PCs, tablets, gaming and entertainment consoles, other intelligent devices, and related accessories.

Service and other revenue includes sales from cloud-based solutions that provide customers with software, services, platforms, and content such as Office 365, Azure, Dynamics 365, and Xbox; solution support; and consulting services. Service and other revenue also includes sales from online advertising and LinkedIn.

62


PART II

Item 8

 

Revenue Recognition

Revenue is recognized upon transfer of control of promised products or services to customers in an amount that reflects the consideration we expect to receive in exchange for those products or services. We enter into contracts that can include various combinations of products and services, which are generally capable of being distinct and accounted for as separate performance obligations. Revenue is recognized net of allowances for returns and any taxes collected from customers, which are subsequently remitted to governmental authorities.

Nature of Products and Services

Licenses for on-premises software provide the customer with a right to use the software as it exists when made available to the customer. Customers may purchase perpetual licenses or subscribe to licenses, which provide customers with the same functionality and differ mainly in the duration over which the customer benefits from the software. Revenue from distinct on-premises licenses is recognized upfront at the point in time when the software is made available to the customer. In cases where we allocate revenue to software updates, primarily because the updates are provided at no additional charge, revenue is recognized as the updates are provided, which is generally ratably over the estimated life of the related device or license.

Certain volume licensing programs, including Enterprise Agreements, include on-premises licenses combined with Software Assurance (“SA”). SA conveys rights to new software and upgrades released over the contract period and provides support, tools, and training to help customers deploy and use products more efficiently. On-premises licenses are considered distinct performance obligations when sold with SA. Revenue allocated to SA is generally recognized ratably over the contract period as customers simultaneously consume and receive benefits, given that SA comprises distinct performance obligations that are satisfied over time.

Cloud services, which allow customers to use hosted software over the contract period without taking possession of the software, are provided on either a subscription or consumption basis. Revenue related to cloud services provided on a subscription basis is recognized ratably over the contract period. Revenue related to cloud services provided on a consumption basis, such as the amount of storage used in a period, is recognized based on the customer utilization of such resources. When cloud services require a significant level of integration and interdependency with software and the individual components are not considered distinct, all revenue is recognized over the period in which the cloud services are provided.

Revenue from search advertising is recognized when the advertisement appears in the search results or when the action necessary to earn the revenue has been completed. Revenue from consulting services is recognized as services are provided.

Our hardware is generally highly dependent on, and interrelated with, the underlying operating system and cannot function without the operating system. In these cases, the hardware and software license are accounted for as a single performance obligation and revenue is recognized at the point in time when ownership is transferred to resellers or directly to end customers through retail stores and online marketplaces.

Refer to Note 19 – Segment Information and Geographic Data for further information, including revenue by significant product and service offering.

Significant Judgments

Our contracts with customers often include promises to transfer multiple products and services to a customer. Determining whether products and services are considered distinct performance obligations that should be accounted for separately versus together may require significant judgment. When a cloud-based service includes both on-premises software licenses and cloud services, judgment is required to determine whether the software license is considered distinct and accounted for separately, or not distinct and accounted for together with the cloud service and recognized over time. Certain cloud services, primarily Office 365, depend on a significant level of integration, interdependency, and interrelation between the desktop applications and cloud services, and are accounted for together as one performance obligation. Revenue from Office 365 is recognized ratably over the period in which the cloud services are provided.

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Judgment is required to determine the SSP for each distinct performance obligation. We use a single amount to estimate SSP for items that are not sold separately, including on-premises licenses sold with SA or software updates provided at no additional charge. We use a range of amounts to estimate SSP when we sell each of the products and services separately and need to determine whether there is a discount to be allocated based on the relative SSP of the various products and services.

In instances where SSP is not directly observable, such as when we do not sell the product or service separately, we determine the SSP using information that may include market conditions and other observable inputs. We typically have more than one SSP for individual products and services due to the stratification of those products and services by customers and circumstances. In these instances, we may use information such as the size of the customer and geographic region in determining the SSP.

Due to the various benefits from and the nature of our SA program, judgment is required to assess the pattern of delivery, including the exercise pattern of certain benefits across our portfolio of customers.

Our products are generally sold with a right of return, we may provide other credits or incentives, and in certain instances we estimate customer usage of our products and services, which are accounted for as variable consideration when determining the amount of revenue to recognize. Returns and credits are estimated at contract inception and updated at the end of each reporting period if additional information becomes available. Changes to our estimated variable consideration were not material for the periods presented.

Contract Balances and Other Receivables

Timing of revenue recognition may differ from the timing of invoicing to customers. We record a receivable when revenue is recognized prior to invoicing, or unearned revenue when revenue is recognized subsequent to invoicing. For multi-year agreements, we generally invoice customers annually at the beginning of each annual coverage period. We record a receivable related to revenue recognized for multi-year on-premises licenses as we have an unconditional right to invoice and receive payment in the future related to those licenses.

Unearned revenue comprises mainly unearned revenue related to volume licensing programs, which may include SA and cloud services. Unearned revenue is generally invoiced annually at the beginning of each contract period for multi-year agreements and recognized ratably over the coverage period. Unearned revenue also includes payments for consulting services to be performed in the future, LinkedIn subscriptions, Office 365 subscriptions, Xbox subscriptions, Windows post-delivery support, Dynamics business solutions, and other offerings for which we have been paid in advance and earn the revenue when we transfer control of the product or service.

Refer to Note 13 – Unearned Revenue for further information, including unearned revenue by segment and changes in unearned revenue during the period.

Payment terms and conditions vary by contract type, although terms generally include a requirement of payment within 30 to 60 days. In instances where the timing of revenue recognition differs from the timing of invoicing, we have determined our contracts generally do not include a significant financing component. The primary purpose of our invoicing terms is to provide customers with simplified and predictable ways of purchasing our products and services, not to receive financing from our customers or to provide customers with financing. Examples include invoicing at the beginning of a subscription term with revenue recognized ratably over the contract period, and multi-year on-premises licenses that are invoiced annually with revenue recognized upfront.

As of June 30, 2022 and 2021, other receivables due from suppliers were $1.0 billion and $965 million, respectively, and are included in accounts receivable, net in our consolidated balance sheets.

As of June 30, 2022 and 2021, long-term accounts receivable, net of allowance for doubtful accounts, was $3.8 billion and $3.4 billion, respectively, and is included in other long-term assets in our consolidated balance sheets.

The allowance for doubtful accounts reflects our best estimate of probable losses inherent in the accounts receivable balance. We determine the allowance based on known troubled accounts, historical experience, and other currently available evidence.

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Activity in the allowance for doubtful accounts was as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

 

2022

 

 

 

2021

 

 

 

2020

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

$

798

 

 

$

816

 

 

$

434

 

Charged to costs and other

 

 

157

 

 

 

234

 

 

 

560

 

Write-offs

 

 

(245

)

 

 

(252

)

 

 

(178

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

$

710

 

 

$

798

 

 

$

816

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Allowance for doubtful accounts included in our consolidated balance sheets:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30,

 

 

2022

 

 

 

2021

 

 

 

2020

 

 

 

 

 

 

 

 

 

 

 

Accounts receivable, net of allowance for doubtful accounts

 

$

633

 

 

$

751

 

 

$

788

 

Other long-term assets

 

 

77

 

 

 

47

 

 

 

28

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

710

 

 

$

798

 

 

$

 816

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

We record financing receivables when we offer certain of our customers the option to acquire our software products and services offerings through a financing program in a limited number of countries. As of June 30, 2022 and 2021, our financing receivables, net were $4.1 billion and $4.4 billion, respectively, for short-term and long-term financing receivables, which are included in other current assets and other long-term assets in our consolidated balance sheets. We record an allowance to cover expected losses based on troubled accounts, historical experience, and other currently available evidence.

Assets Recognized from Costs to Obtain a Contract with a Customer

We recognize an asset for the incremental costs of obtaining a contract with a customer if we expect the benefit of those costs to be longer than one year. We have determined that certain sales incentive programs meet the requirements to be capitalized. Total capitalized costs to obtain a contract were immaterial during the periods presented and are included in other current and long-term assets in our consolidated balance sheets.

We apply a practical expedient to expense costs as incurred for costs to obtain a contract with a customer when the amortization period would have been one year or less. These costs include our internal sales force compensation program and certain partner sales incentive programs as we have determined annual compensation is commensurate with annual sales activities.

Cost of Revenue

Cost of revenue includes: manufacturing and distribution costs for products sold and programs licensed; operating costs related to product support service centers and product distribution centers; costs incurred to include software on PCs sold by original equipment manufacturers (“OEM”), to drive traffic to our websites, and to acquire online advertising space; costs incurred to support and maintain online products and services, including datacenter costs and royalties; warranty costs; inventory valuation adjustments; costs associated with the delivery of consulting services; and the amortization of capitalized software development costs. Capitalized software development costs are amortized over the estimated lives of the products.

Product Warranty

We provide for the estimated costs of fulfilling our obligations under hardware and software warranties at the time the related revenue is recognized. For hardware warranties, we estimate the costs based on historical and projected product failure rates, historical and projected repair costs, and knowledge of specific product failures (if any). The specific hardware warranty terms and conditions vary depending upon the product sold and the country in which we do business, but generally include parts and labor over a period generally ranging from 90 days to three years. For software warranties, we estimate the costs to provide bug fixes, such as security patches, over the estimated life of the software. We regularly reevaluate our estimates to assess the adequacy of the recorded warranty liabilities and adjust the amounts as necessary.

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Research and Development

Research and development expenses include payroll, employee benefits, stock-based compensation expense, and other headcount-related expenses associated with product development. Research and development expenses also include third-party development and programming costs, localization costs incurred to translate software for international markets, and the amortization of purchased software code and services content. Such costs related to software development are included in research and development expense until the point that technological feasibility is reached, which for our software products, is generally shortly before the products are released to production. Once technological feasibility is reached, such costs are capitalized and amortized to cost of revenue over the estimated lives of the products.

Sales and Marketing

Sales and marketing expenses include payroll, employee benefits, stock-based compensation expense, and other headcount-related expenses associated with sales and marketing personnel, and the costs of advertising, promotions, trade shows, seminars, and other programs. Advertising costs are expensed as incurred. Advertising expense was $1.5 billion, $1.5 billion, and $1.6 billion in fiscal years 2022, 2021, and 2020, respectively.

Stock-Based Compensation

Compensation cost for stock awards, which include restricted stock units (“RSUs”) and performance stock units (“PSUs”), is measured at the fair value on the grant date and recognized as expense, net of estimated forfeitures, over the related service or performance period. The fair value of stock awards is based on the quoted price of our common stock on the grant date less the present value of expected dividends not received during the vesting period. We measure the fair value of PSUs using a Monte Carlo valuation model. Compensation cost for RSUs is recognized using the straight-line method and for PSUs is recognized using the accelerated method.

Compensation expense for the employee stock purchase plan (“ESPP”) is measured as the discount the employee is entitled to upon purchase and is recognized in the period of purchase.

Income Taxes

Income tax expense includes U.S. and international income taxes, and interest and penalties on uncertain tax positions. Certain income and expenses are not reported in tax returns and financial statements in the same year. The tax effect of such temporary differences is reported as deferred income taxes. Deferred tax assets are reported net of a valuation allowance when it is more likely than not that a tax benefit will not be realized. All deferred income taxes are classified as long-term in our consolidated balance sheets.

Financial Instruments

Investments

We consider all highly liquid interest-earning investments with a maturity of three months or less at the date of purchase to be cash equivalents. The fair values of these investments approximate their carrying values. In general, investments with original maturities of greater than three months and remaining maturities of less than one year are classified as short-term investments. Investments with maturities beyond one year may be classified as short-term based on their highly liquid nature and because such marketable securities represent the investment of cash that is available for current operations.

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Debt investments are classified as available-for-sale and realized gains and losses are recorded using the specific identification method. Changes in fair value, excluding credit losses and impairments, are recorded in other comprehensive income. Fair value is calculated based on publicly available market information or other estimates determined by management. If the cost of an investment exceeds its fair value, we evaluate, among other factors, general market conditions, credit quality of debt instrument issuers, and the extent to which the fair value is less than cost. To determine credit losses, we employ a systematic methodology that considers available quantitative and qualitative evidence. In addition, we consider specific adverse conditions related to the financial health of, and business outlook for, the investee. If we have plans to sell the security or it is more likely than not that we will be required to sell the security before recovery, then a decline in fair value below cost is recorded as an impairment charge in other income (expense), net and a new cost basis in the investment is established. If market, industry, and/or investee conditions deteriorate, we may incur future impairments.

Equity investments with readily determinable fair values are measured at fair value. Equity investments without readily determinable fair values are measured using the equity method or measured at cost with adjustments for observable changes in price or impairments (referred to as the measurement alternative). We perform a qualitative assessment on a periodic basis and recognize an impairment if there are sufficient indicators that the fair value of the investment is less than carrying value. Changes in value are recorded in other income (expense), net.

Derivatives

Derivative instruments are recognized as either assets or liabilities and measured at fair value. The accounting for changes in the fair value of a derivative depends on the intended use of the derivative and the resulting designation.

For derivative instruments designated as fair value hedges, gains and losses are recognized in other income (expense), net with offsetting gains and losses on the hedged items. Gains and losses representing hedge components excluded from the assessment of effectiveness are recognized in other income (expense), net.

For derivative instruments designated as cash flow hedges, gains and losses are initially reported as a component of other comprehensive income and subsequently recognized in other income (expense), net with the corresponding hedged item. Gains and losses representing hedge components excluded from the assessment of effectiveness are recognized in other income (expense), net.

For derivative instruments that are not designated as hedges, gains and losses from changes in fair values are primarily recognized in other income (expense), net.

Fair Value Measurements

We account for certain assets and liabilities at fair value. The hierarchy below lists three levels of fair value based on the extent to which inputs used in measuring fair value are observable in the market. We categorize each of our fair value measurements in one of these three levels based on the lowest level input that is significant to the fair value measurement in its entirety. These levels are:

 

Level 1 – inputs are based upon unadjusted quoted prices for identical instruments in active markets. Our Level 1 investments include U.S. government securities, common and preferred stock, and mutual funds. Our Level 1 derivative assets and liabilities include those actively traded on exchanges.

 

Level 2 – inputs are based upon quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, and model-based valuation techniques (e.g. the Black-Scholes model) for which all significant inputs are observable in the market or can be corroborated by observable market data for substantially the full term of the assets or liabilities. Where applicable, these models project future cash flows and discount the future amounts to a present value using market-based observable inputs including interest rate curves, credit spreads, foreign exchange rates, and forward and spot prices for currencies. Our Level 2 investments include commercial paper, certificates of deposit, U.S. agency securities, foreign government bonds, mortgage- and asset-backed securities, corporate notes and bonds, and municipal securities. Our Level 2 derivative assets and liabilities include certain over-the-counter forward, option, and swap contracts.

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Level 3 – inputs are generally unobservable and typically reflect management’s estimates of assumptions that market participants would use in pricing the asset or liability. The fair values are therefore determined using model-based techniques, including option pricing models and discounted cash flow models. Our Level 3 assets and liabilities include investments in corporate notes and bonds, municipal securities, and goodwill and intangible assets, when they are recorded at fair value due to an impairment charge. Unobservable inputs used in the models are significant to the fair values of the assets and liabilities.

We measure equity investments without readily determinable fair values on a nonrecurring basis. The fair values of these investments are determined based on valuation techniques using the best information available, and may include quoted market prices, market comparables, and discounted cash flow projections.

Our other current financial assets and current financial liabilities have fair values that approximate their carrying values.

Inventories

Inventories are stated at average cost, subject to the lower of cost or net realizable value. Cost includes materials, labor, and manufacturing overhead related to the purchase and production of inventories. Net realizable value is the estimated selling price less estimated costs of completion, disposal, and transportation. We regularly review inventory quantities on hand, future purchase commitments with our suppliers, and the estimated utility of our inventory. If our review indicates a reduction in utility below carrying value, we reduce our inventory to a new cost basis through a charge to cost of revenue.

Property and Equipment

Property and equipment is stated at cost less accumulated depreciation, and depreciated using the straight-line method over the shorter of the estimated useful life of the asset or the lease term. The estimated useful lives of our property and equipment are generally as follows: computer software developed or acquired for internal use, three to seven years; computer equipment, two to four years; buildings and improvements, five to 15 years; leasehold improvements, three to 20 years; and furniture and equipment, one to 10 years. Land is not depreciated.

Leases

We determine if an arrangement is a lease at inception. Operating leases are included in operating lease right-of-use (“ROU”) assets, other current liabilities, and operating lease liabilities in our consolidated balance sheets. Finance leases are included in property and equipment, other current liabilities, and other long-term liabilities in our consolidated balance sheets.

ROU assets represent our right to use an underlying asset for the lease term and lease liabilities represent our obligation to make lease payments arising from the lease. Operating lease ROU assets and liabilities are recognized at commencement date based on the present value of lease payments over the lease term. As most of our leases do not provide an implicit rate, we generally use our incremental borrowing rate based on the estimated rate of interest for collateralized borrowing over a similar term of the lease payments at commencement date. The operating lease ROU asset also includes any lease payments made and excludes lease incentives. Our lease terms may include options to extend or terminate the lease when it is reasonably certain that we will exercise that option. Lease expense for lease payments is recognized on a straight-line basis over the lease term.

We have lease agreements with lease and non-lease components, which are generally accounted for separately. For certain equipment leases, such as vehicles, we account for the lease and non-lease components as a single lease component. Additionally, for certain equipment leases, we apply a portfolio approach to effectively account for the operating lease ROU assets and liabilities.

Goodwill

Goodwill is tested for impairment at the reporting unit level (operating segment or one level below an operating segment) on an annual basis (May 1 for us) and between annual tests if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying value.

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Intangible Assets

Our intangible assets are subject to amortization and are amortized using the straight-line method over their estimated period of benefit, ranging from one to 20 years. We evaluate the recoverability of intangible assets periodically by taking into account events or circumstances that may warrant revised estimates of useful lives or that indicate the asset may be impaired.

Recent Accounting Guidance

Accounting for Income Taxes

In December 2019, the Financial Accounting Standards Board issued a new standard to simplify the accounting for income taxes. The guidance eliminates certain exceptions related to the approach for intraperiod tax allocation, the methodology for calculating income taxes in an interim period, and the recognition of deferred tax liabilities for outside basis differences related to changes in ownership of equity method investments and foreign subsidiaries. The guidance also simplifies aspects of accounting for franchise taxes and enacted changes in tax laws or rates and clarifies the accounting for transactions that result in a step-up in the tax basis of goodwill. We adopted the standard effective July 1, 2021. Adoption of the standard did not have a material impact on our consolidated financial statements.

NOTE 2 — EARNINGS PER SHARE

Basic earnings per share (“EPS”) is computed based on the weighted average number of shares of common stock outstanding during the period. Diluted EPS is computed based on the weighted average number of shares of common stock plus the effect of dilutive potential common shares outstanding during the period using the treasury stock method. Dilutive potential common shares include outstanding stock options and stock awards.

The components of basic and diluted EPS were as follows:

 

(In millions, except earnings per share)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2022

 

 

2021

 

 

2020

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income available for common shareholders (A)

 

$

72,738

 

 

$

61,271

 

 

$

 44,281

 

Weighted average outstanding shares of common stock (B)

 

 

7,496

 

 

 

7,547

 

 

 

7,610

 

Dilutive effect of stock-based awards

 

 

44

 

 

 

61

 

 

 

73

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Common stock and common stock equivalents (C)

 

 

7,540

 

 

 

7,608

 

 

 

7,683

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Earnings Per Share

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic (A/B)

 

$

9.70

 

 

$

8.12

 

 

$

5.82

 

Diluted (A/C)

 

$

9.65

 

 

$

8.05

 

 

$

5.76

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Anti-dilutive stock-based awards excluded from the calculations of diluted EPS were immaterial during the periods presented.

NOTE 3 — OTHER INCOME (EXPENSE), NET

The components of other income (expense), net were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2022

 

 

2021

 

 

2020

 

 

 

 

 

Interest and dividends income

 

$

2,094

 

 

$

2,131

 

 

$

2,680

 

Interest expense

 

 

(2,063

)

 

 

(2,346

)

 

 

 (2,591

)

Net recognized gains on investments

 

 

461

 

 

 

1,232

 

 

 

32

 

Net gains (losses) on derivatives

 

 

(52

)

 

 

17

 

 

 

187

 

Net gains (losses) on foreign currency remeasurements

 

 

(75

)

 

 

54

 

 

 

(191

)

Other, net

 

 

(32

)

 

 

98

 

 

 

(40

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

333

 

 

$

1,186

 

 

$

77

 

 

 

 

 

 

 

 

 

 

 

 

 

 

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PART II

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Net Recognized Gains (Losses) on Investments

Net recognized gains (losses) on debt investments were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2022

 

 

2021

 

 

2020

 

 

 

 

 

Realized gains from sales of available-for-sale securities

 

$

162

 

 

$

105

 

 

$

50

 

Realized losses from sales of available-for-sale securities

 

 

(138

)

 

 

(40

)

 

 

(37

)

Impairments and allowance for credit losses

 

 

(81

)

 

 

(2

)

 

 

(17

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

(57

)

 

$

63

 

 

$

(4

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net recognized gains (losses) on equity investments were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2022

 

 

2021

 

 

2020

 

 

 

 

 

Net realized gains on investments sold

 

$

29

 

 

$

123

 

 

$

83

 

Net unrealized gains on investments still held

 

 

509

 

 

 

1,057

 

 

 

 69

 

Impairments of investments

 

 

(20

)

 

 

(11

)

 

 

(116

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

518

 

 

$

1,169

 

 

$

 36

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

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PART II

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NOTE 4 — INVESTMENTS

Investment Components

The components of investments were as follows:

 

(In millions)

 

Fair Value

Level

 

 

Adjusted

Cost Basis

 

 

Unrealized

Gains

 

 

Unrealized

Losses

 

 

Recorded

Basis

 

 

Cash

and Cash

Equivalents

 

Short-term

Investments

 

 

Equity

Investments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2022

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Changes in Fair Value Recorded in Other Comprehensive Income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial paper

 

 

Level 2

 

 

$

2,500

 

 

$

0

 

 

$

0

 

 

$

2,500

 

 

$

2,498

 

 

$

2

 

 

$

0

 

Certificates of deposit

 

 

Level 2

 

 

 

2,071

 

 

 

0

 

 

 

0

 

 

 

2,071

 

 

 

2,032

 

 

 

39

 

 

 

0

 

U.S. government securities

 

 

Level 1

 

 

 

79,696

 

 

 

29

 

 

 

(2,178

)

 

 

77,547

 

 

 

9

 

 

 

77,538

 

 

 

0

 

U.S. agency securities

 

 

Level 2

 

 

 

419

 

 

 

0

 

 

 

(9

)

 

 

410

 

 

 

0

 

 

 

410

 

 

 

0

 

Foreign government bonds

 

 

Level 2

 

 

 

506

 

 

 

0

 

 

 

(24

)

 

 

482

 

 

 

0

 

 

 

482

 

 

 

0

 

Mortgage- and asset-backed securities

 

 

Level 2

 

 

 

727

 

 

 

1

 

 

 

(30

)

 

 

698

 

 

 

0

 

 

 

698

 

 

 

0

 

Corporate notes and bonds

 

 

Level 2

 

 

 

11,661

 

 

 

4

 

 

 

(554

)

 

 

11,111

 

 

 

0

 

 

 

11,111

 

 

 

0

 

Corporate notes and bonds

 

 

Level 3

 

 

 

67

 

 

 

0

 

 

 

0

 

 

 

67

 

 

 

0

 

 

 

67

 

 

 

0

 

Municipal securities

 

 

Level 2

 

 

 

368

 

 

 

19

 

 

 

(13

)

 

 

374

 

 

 

0

 

 

 

374

 

 

 

0

 

Municipal securities

 

 

Level 3

 

 

 

103

 

 

 

0

 

 

 

(6

)

 

 

97

 

 

 

0

 

 

 

97

 

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total debt investments

 

 

 

 

 

$

98,118

 

 

$

53

 

 

$

(2,814

)

 

$

95,357

 

 

$

4,539

 

 

$

90,818

 

 

$

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Changes in Fair Value Recorded in Net Income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Equity investments

 

 

Level 1

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

1,590

 

 

$

1,134

 

 

$

0

 

 

$

456

 

Equity investments

 

 

Other

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

6,435

 

 

 

0

 

 

 

0

 

 

 

6,435

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total equity investments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

8,025

 

 

$

1,134

 

 

$

0

 

 

$

6,891

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

8,258

 

 

$

8,258

 

 

$

0

 

 

$

0

 

Derivatives, net (a)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

8

 

 

 

0

 

 

 

8

 

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

111,648

 

 

$

13,931

 

 

$

90,826

 

 

$

6,891

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

71


PART II

Item 8

 

 

 

(In millions)

 

Fair Value

Level

 

 

Adjusted

Cost Basis

 

 

Unrealized

Gains

 

 

Unrealized

Losses

 

 

Recorded

Basis

 

 

Cash

and Cash

Equivalents

 

Short-term

Investments

 

 

Equity

Investments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2021

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Changes in Fair Value Recorded in Other Comprehensive Income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial paper

 

 

Level 2

 

 

$

4,316

 

 

$

0

 

 

$

0

 

 

$

4,316

 

 

$

1,331

 

 

$

2,985

 

 

$

0

 

Certificates of deposit

 

 

Level 2

 

 

 

3,615

 

 

 

0

 

 

 

0

 

 

 

3,615

 

 

 

2,920

 

 

 

695

 

 

 

0

 

U.S. government securities

 

 

Level 1

 

 

 

90,664

 

 

 

3,832

 

 

 

(111

)

 

 

94,385

 

 

 

1,500

 

 

 

92,885

 

 

 

0

 

U.S. agency securities

 

 

Level 2

 

 

 

807

 

 

 

2

 

 

 

0

 

 

 

809

 

 

 

0

 

 

 

809

 

 

 

0

 

Foreign government bonds

 

 

Level 2

 

 

 

6,213

 

 

 

9

 

 

 

(2

)

 

 

6,220

 

 

 

225

 

 

 

5,995

 

 

 

0

 

Mortgage- and asset-backed securities

 

 

Level 2

 

 

 

3,442

 

 

 

22

 

 

 

(6

)

 

 

3,458

 

 

 

0

 

 

 

3,458

 

 

 

0

 

Corporate notes and bonds

 

 

Level 2

 

 

 

8,443

 

 

 

249

 

 

 

(9

)

 

 

8,683

 

 

 

0

 

 

 

8,683

 

 

 

0

 

Corporate notes and bonds

 

 

Level 3

 

 

 

63

 

 

 

0

 

 

 

0

 

 

 

63

 

 

 

0

 

 

 

63

 

 

 

0

 

Municipal securities

 

 

Level 2

 

 

 

308

 

 

 

63

 

 

 

0

 

 

 

371

 

 

 

0

 

 

 

371

 

 

 

0

 

Municipal securities

 

 

Level 3

 

 

 

95

 

 

 

0

 

 

 

(7

)

 

 

88

 

 

 

0

 

 

 

88

 

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total debt investments

 

 

 

 

 

$

117,966

 

 

$

4,177

 

 

$

(135

)

 

$

122,008

 

 

$

5,976

 

 

$

116,032

 

 

$

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Changes in Fair Value Recorded in Net Income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Equity investments

 

 

Level 1

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

1,582

 

 

$

976

 

 

$

0

 

 

$

606

 

Equity investments

 

 

Other

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

5,378

 

 

 

0

 

 

 

0

 

 

 

5,378

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total equity investments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

6,960

 

 

$

976

 

 

$

0

 

 

$

5,984

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

7,272

 

 

$

7,272

 

 

$

0

 

 

$

0

 

Derivatives, net (a)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

78

 

 

 

0

 

 

 

78

 

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

136,318

 

 

$

14,224

 

 

$

116,110

 

 

$

5,984

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(a)

Refer to Note 5 – Derivatives for further information on the fair value of our derivative instruments.

 

Equity investments presented as “Other” in the tables above include investments without readily determinable fair values measured using the equity method or measured at cost with adjustments for observable changes in price or impairments, and investments measured at fair value using net asset value as a practical expedient which are not categorized in the fair value hierarchy. As of June 30, 2022 and 2021, equity investments without readily determinable fair values measured at cost with adjustments for observable changes in price or impairments were $3.8 billion and $3.3 billion, respectively.

Unrealized Losses on Debt Investments

Debt investments with continuous unrealized losses for less than 12 months and 12 months or greater and their related fair values were as follows:

 

 

 

Less than 12 Months

 

 

12 Months or Greater

 

 

 

 

 

Total
Unrealized
Losses

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(In millions)

 

Fair Value

 

 

Unrealized
Losses

 

 

Fair Value

 

 

Unrealized
Losses

 

 

Total
Fair Value

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2022

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. government and agency securities

 

$

59,092

 

 

$

(1,835

)

 

$

2,210

 

 

$

(352

)

 

$

61,302

 

 

$

(2,187

)

Foreign government bonds

 

 

418

 

 

 

(18

)

 

 

27

 

 

 

(6

)

 

 

445

 

 

 

(24

)

Mortgage- and asset-backed securities

 

 

510

 

 

 

(26

)

 

 

41

 

 

 

(4

)

 

 

551

 

 

 

(30

)

Corporate notes and bonds

 

 

9,443

 

 

 

(477

)

 

 

786

 

 

 

(77

)

 

 

10,229

 

 

 

(554

)

Municipal securities

 

 

178

 

 

 

(12

)

 

 

74

 

 

 

(7

)

 

 

252

 

 

 

(19

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

69,641

 

 

$

(2,368

)

 

$

3,138

 

 

$

(446

)

 

$

72,779

 

 

$

(2,814

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

72


PART II

Item 8

 

 

 

 

 

Less than 12 Months

 

 

12 Months or Greater

 

 

 

 

 

 

 

Total
Unrealized
Losses

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(In millions)

 

 

Fair Value

 

 

 

Unrealized
Losses

 

 

 

Fair Value

 

 

 

Unrealized
Losses

 

 

 

Total
Fair Value

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2021

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. government and agency securities

 

$

5,294

 

 

$

(111

)

 

$

0

 

 

$

0

 

 

$

5,294

 

 

$

(111

)

Foreign government bonds

 

 

3,148

 

 

 

(1

)

 

 

5

 

 

 

(1

)

 

 

3,153

 

 

 

(2

)

Mortgage- and asset-backed securities

 

 

1,211

 

 

 

(5

)

 

 

87

 

 

 

(1

)

 

 

1,298

 

 

 

(6

)

Corporate notes and bonds

 

 

1,678

 

 

 

(8

)

 

 

34

 

 

 

(1

)

 

 

1,712

 

 

 

(9

)

Municipal securities

 

 

58

 

 

 

(7

)

 

 

1

 

 

 

0

 

 

 

59

 

 

 

(7

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

11,389

 

 

$

(132

)

 

$

127

 

 

$

(3

)

 

$

11,516

 

 

$

(135

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Unrealized losses from fixed-income securities are primarily attributable to changes in interest rates. Management does not believe any remaining unrealized losses represent impairments based on our evaluation of available evidence.

Debt Investment Maturities

 

(In millions)

 

Adjusted

Cost Basis

 

 

Estimated

Fair Value

 

 

 

 

 

 

 

June 30, 2022

 

 

 

 

 

 

 

 

 

 

 

Due in one year or less

 

$

26,480

 

 

$

26,470

 

Due after one year through five years

 

 

52,006

 

 

 

50,748

 

Due after five years through 10 years

 

 

18,274

 

 

 

16,880

 

Due after 10 years

 

 

1,358

 

 

 

1,259

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

98,118

 

 

$

95,357

 

 

 

 

 

 

 

 

 

 

 

NOTE 5 — DERIVATIVES

We use derivative instruments to manage risks related to foreign currencies, interest rates, equity prices, and credit; to enhance investment returns; and to facilitate portfolio diversification. Our objectives for holding derivatives include reducing, eliminating, and efficiently managing the economic impact of these exposures as effectively as possible. Our derivative programs include strategies that both qualify and do not qualify for hedge accounting treatment.

Foreign Currencies

Certain forecasted transactions, assets, and liabilities are exposed to foreign currency risk. We monitor our foreign currency exposures daily to maximize the economic effectiveness of our foreign currency hedge positions.

Foreign currency risks related to certain non-U.S. dollar-denominated investments are hedged using foreign exchange forward contracts that are designated as fair value hedging instruments. Foreign currency risks related to certain Euro-denominated debt are hedged using foreign exchange forward contracts that are designated as cash flow hedging instruments.

Certain options and forwards not designated as hedging instruments are also used to manage the variability in foreign exchange rates on certain balance sheet amounts and to manage other foreign currency exposures.

Interest Rate

Interest rate risks related to certain fixed-rate debt are hedged using interest rate swaps that are designated as fair value hedging instruments to effectively convert the fixed interest rates to floating interest rates.

73


PART II

Item 8

 

Securities held in our fixed-income portfolio are subject to different interest rate risks based on their maturities. We manage the average maturity of our fixed-income portfolio to achieve economic returns that correlate to certain broad-based fixed-income indices using exchange-traded option and futures contracts and over-the-counter swap and option contracts. These contracts are not designated as hedging instruments and are included in “Other contracts” in the tables below.

Equity

Securities held in our equity investments portfolio are subject to market price risk. At times, we may hold options, futures, and swap contracts. These contracts are not designated as hedging instruments and are included in “Other contracts” in the tables below.

Credit

Our fixed-income portfolio is diversified and consists primarily of investment-grade securities. We use credit default swap contracts to manage credit exposures relative to broad-based indices and to facilitate portfolio diversification. These contracts are not designated as hedging instruments and are included in “Other contracts” in the tables below.

Credit-Risk-Related Contingent Features

Certain of our counterparty agreements for derivative instruments contain provisions that require our issued and outstanding long-term unsecured debt to maintain an investment grade credit rating and require us to maintain minimum liquidity of $1.0 billion. To the extent we fail to meet these requirements, we will be required to post collateral, similar to the standard convention related to over-the-counter derivatives. As of June 30, 2022, our long-term unsecured debt rating was AAA, and cash investments were in excess of $1.0 billion. As a result, no collateral was required to be posted.

The following table presents the notional amounts of our outstanding derivative instruments measured in U.S. dollar equivalents:

 

(In millions)

 

June 30,

2022

 

 

June 30,

2021

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Designated as Hedging Instruments

 

 

 

 

 

 

 

 

 

 

 

Foreign exchange contracts purchased

 

$

635

 

 

$

635

 

Foreign exchange contracts sold

 

 

0

 

 

 

6,081

 

Interest rate contracts purchased

 

 

1,139

 

 

 

1,247

 

 

 

 

Not Designated as Hedging Instruments

 

 

 

 

 

 

 

 

 

 

 

Foreign exchange contracts purchased

 

 

10,322

 

 

 

14,223

 

Foreign exchange contracts sold

 

 

21,606

 

 

 

23,391

 

Other contracts purchased

 

 

2,773

 

 

 

2,456

 

Other contracts sold

 

 

544

 

 

 

763

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

74


PART II

Item 8

 

 

Fair Values of Derivative Instruments

The following table presents our derivative instruments:

 

 

 

Derivative

 

Derivative

 

Derivative

 

Derivative

 

(In millions)

 

Assets

 

Liabilities

 

Assets

 

Liabilities

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30,

2022

 

June 30,

2021

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Designated as Hedging Instruments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Foreign exchange contracts

 

$

0

 

 

$

(77

)

 

$

76

 

 

$

(8

)

Interest rate contracts

 

 

3

 

 

 

0

 

 

 

40

 

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Not Designated as Hedging Instruments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Foreign exchange contracts

 

 

333

 

 

 

(362

)

 

 

227

 

 

 

(291

)

Other contracts

 

 

20

 

 

 

(112

)

 

 

56

 

 

 

(36

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross amounts of derivatives

 

 

356

 

 

 

(551

)

 

 

399

 

 

 

(335

)

Gross amounts of derivatives offset in the balance sheet

 

 

(130

)

 

 

133

 

 

 

(141

)

 

 

142

 

Cash collateral received

 

 

 0

 

 

 

(75

)

 

 

 0

 

 

 

(42

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net amounts of derivatives

 

$

226

 

 

$

(493

)

 

$

258

 

 

$

(235

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Reported as

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Short-term investments

 

$

8

 

 

$

0

 

 

$

78

 

 

$

0

 

Other current assets

 

 

218

 

 

 

0

 

 

 

137

 

 

 

0

 

Other long-term assets

 

 

0

 

 

 

0

 

 

 

43

 

 

 

0

 

Other current liabilities

 

 

0

 

 

 

(298

)

 

 

0

 

 

 

(182

)

Other long-term liabilities

 

 

0

 

 

 

(195

)

 

 

0

 

 

 

(53

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

226

 

 

$

(493

)

 

$

258

 

 

$

(235

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross derivative assets and liabilities subject to legally enforceable master netting agreements for which we have elected to offset were $343 million and $550 million, respectively, as of June 30, 2022, and $395 million and $335 million, respectively, as of June 30, 2021.

The following table presents the fair value of our derivatives instruments on a gross basis:

 

(In millions)

 

Level 1

 

 

 

Level 2

 

 

Level 3

 

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2022

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Derivative assets

 

$

1

 

 

$

349

 

 

$

6

 

 

$

356

 

Derivative liabilities

 

 

0

 

 

 

(551

)

 

 

0

 

 

 

(551

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2021

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Derivative assets

 

 

0

 

 

 

396

 

 

 

3

 

 

 

399

 

Derivative liabilities

 

 

0

 

 

 

(335

)

 

 

0

 

 

 

(335

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

75


PART II

Item 8

 

 

Gains (losses) on derivative instruments recognized in other income (expense), net were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2022

 

 

2021

 

 

2020

 

 

 

 

 

Designated as Fair Value Hedging Instruments

 

 

 

 

 

 

 

Foreign exchange contracts

 

 

 

Derivatives

 

$

49

 

 

$

193

 

 

$

1

 

Hedged items

 

 

(50

)

 

 

(188

)

 

 

3

 

Excluded from effectiveness assessment

 

 

4

 

 

 

30

 

 

 

139

 

Interest rate contracts

 

 

 

Derivatives

 

 

(92

)

 

 

(37

)

 

 

93

 

Hedged items

 

 

108

 

 

 

53

 

 

 

(93

)

 

 

 

 

 

 

 

 

 

 

 

 

 

Designated as Cash Flow Hedging Instruments

 

 

 

 

 

 

 

Foreign exchange contracts

 

 

 

Amount reclassified from accumulated other comprehensive income

 

 

(79

)

 

 

17

 

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Not Designated as Hedging Instruments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Foreign exchange contracts

 

 

383

 

 

 

27

 

 

 

(123

)

Other contracts

 

 

(72

)

 

 

9

 

 

 

50

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gains (losses), net of tax, on derivative instruments recognized in our consolidated comprehensive income statements were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2022

 

 

2021

 

 

2020

 

 

 

 

 

Designated as Cash Flow Hedging Instruments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Foreign exchange contracts

 

 

 

 

 

 

 

 

 

 

 

 

Included in effectiveness assessment

 

$

(57

)

 

$

34

 

 

$

(38

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

NOTE 6 INVENTORIES

The components of inventories were as follows:

 

(In millions)

 

 

 

 

 

 

 

June 30,

 

2022

 

 

2021

 

 

 

 

Raw materials

 

$

1,144

 

 

$

1,190

 

Work in process

 

 

82

 

 

 

79

 

Finished goods

 

 

2,516

 

 

 

1,367

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

3,742

 

 

$

2,636

 

 

 

 

 

 

 

 

 

 

 

76


PART II

Item 8

 

 

NOTE 7 — PROPERTY AND EQUIPMENT

The components of property and equipment were as follows:

 

(In millions)

 

 

 

 

 

 

 

June 30,

 

2022

 

 

2021

 

 

 

 

Land

 

$

4,734

 

 

$

3,660

 

Buildings and improvements

 

 

55,014

 

 

 

43,928

 

Leasehold improvements

 

 

7,819

 

 

 

6,884

 

Computer equipment and software

 

 

60,631

 

 

 

51,250

 

Furniture and equipment

 

 

5,860

 

 

 

5,344

 

 

 

 

 

 

 

 

 

 

 

 

 

Total, at cost

 

 

134,058

 

 

 

111,066

 

Accumulated depreciation

 

 

(59,660

)

 

 

(51,351

)

 

 

 

 

 

 

 

 

 

 

 

 

Total, net

 

$

 74,398

 

 

$

 59,715

 

 

 

 

 

 

 

 

 

 

 

During fiscal years 2022, 2021, and 2020, depreciation expense was $12.6 billion, $9.3 billion, and $10.7 billion, respectively. We have committed $8.5 billion, primarily related to datacenters, for the construction of new buildings, building improvements, and leasehold improvements as of June 30, 2022.

NOTE 8 — BUSINESS COMBINATIONS

Nuance Communications, Inc.

On March 4, 2022, we completed our acquisition of Nuance Communications, Inc. (“Nuance”) for a total purchase price of $18.8 billion, consisting primarily of cash. Nuance is a cloud and artificial intelligence (“AI”) software provider with healthcare and enterprise AI experience, and the acquisition will build on our industry-specific cloud offerings. The financial results of Nuance have been included in our consolidated financial statements since the date of the acquisition. Nuance is reported as part of our Intelligent Cloud segment.

The purchase price allocation as of the date of acquisition was based on a preliminary valuation and is subject to revision as more detailed analyses are completed and additional information about the fair value of assets acquired and liabilities assumed becomes available.

The major classes of assets and liabilities to which we have preliminarily allocated the purchase price were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Goodwill (a)

 

 

$

16,308

 

Intangible assets

 

 

 

4,365

 

Other assets

 

 

 

59

 

Other liabilities (b)

 

 

 

(1,971

)

 

 

 

 

 

 

 

 

 

 

 

 

Total 

 

 

$

18,761

 

 

 

 

 

 

 

 

 

 

 

(a)

Goodwill was assigned to our Intelligent Cloud segment and was primarily attributed to increased synergies that are expected to be achieved from the integration of Nuance. None of the goodwill is expected to be deductible for income tax purposes.

(b)

Includes $986 million of convertible senior notes issued by Nuance in 2015 and 2017, of which $985 million was redeemed prior to June 30, 2022. The remaining $1 million of notes are redeemable through their respective maturity dates and are included in other current liabilities on our consolidated balance sheets as of June 30, 2022.

77


PART II

Item 8

 

Following are the details of the purchase price allocated to the intangible assets acquired:

 

(In millions, except average life)

 

Amount

 

 

Weighted

Average Life

 

 

 

 

 

 

 

Customer-related

 

$

2,610

 

 

9 years

 

Technology-based

 

 

1,540

 

 

5 years

 

Marketing-related

 

 

215

 

 

4 years

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

4,365

 

 

7 years

 

 

 

 

 

 

 

 

 

 

 

ZeniMax Media Inc.

On March 9, 2021, we completed our acquisition of ZeniMax Media Inc. (“ZeniMax”), the parent company of Bethesda Softworks LLC (“Bethesda”), for a total purchase price of $8.1 billion, consisting primarily of cash. The purchase price included $766 million of cash and cash equivalents acquired. Bethesda is one of the largest, privately held game developers and publishers in the world, and brings a broad portfolio of games, technology, and talent to Xbox. The financial results of ZeniMax have been included in our consolidated financial statements since the date of the acquisition. ZeniMax is reported as part of our More Personal Computing segment.

The allocation of the purchase price to goodwill was completed as of December 31, 2021. The major classes of assets and liabilities to which we have allocated the purchase price were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

 

$

766

 

Goodwill

 

 

 

5,510

 

Intangible assets

 

 

 

1,968

 

Other assets

 

 

 

121

 

Other liabilities

 

 

 

(244

)

 

 

 

 

 

 

 

 

 

 

 

 

Total 

 

 

$

8,121

 

 

 

 

 

 

 

 

 

 

 

Goodwill was assigned to our More Personal Computing segment. The goodwill was primarily attributed to increased synergies that are expected to be achieved from the integration of ZeniMax. None of the goodwill is expected to be deductible for income tax purposes.

Following are details of the purchase price allocated to the intangible assets acquired:

 

(In millions, except average life)

 

Amount

 

 

Weighted

Average Life

 

 

 

 

 

 

 

Technology-based

 

$

1,341

 

 

4 years

 

Marketing-related

 

 

627

 

 

11 years

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

1,968

 

 

6 years

 

 

 

 

 

 

 

 

 

 

 

Activision Blizzard, Inc.

On January 18, 2022, we entered into a definitive agreement to acquire Activision Blizzard, Inc. (“Activision Blizzard”) for $95.00 per share in an all-cash transaction valued at $68.7 billion, inclusive of Activision Blizzard’s net cash. Activision Blizzard is a leader in game development and an interactive entertainment content publisher. The acquisition will accelerate the growth in our gaming business across mobile, PC, console, and cloud and will provide building blocks for the metaverse. The acquisition has been approved by Activision Blizzard’s shareholders, and we expect it to close in fiscal year 2023, subject to the satisfaction of certain regulatory approvals and other customary closing conditions.

78


PART II

Item 8

 

NOTE 9 — GOODWILL

Changes in the carrying amount of goodwill were as follows:

 

(In millions)

 

 

June 30,

2020

 

 

 

Acquisitions

 

 

 

Other

 

 

 

June 30,

2021

 

 

 

Acquisitions

 

 

 

Other

 

 

 

 

June 30,
2022

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Productivity and Business Processes

 

$

24,190

 

 

$

0

 

 

$

127

 

 

$

24,317

 

 

$

599

 

 

$

(105

)

 

 

$

24,811

 

Intelligent Cloud

 

 

12,697

 

 

 

505

 

 

 

54

 

 

 

13,256

 

 

 

16,879

(b)

 

 

47

 

(b)

 

 

30,182

 

More Personal Computing

 

 

6,464

 

 

 

5,556

(a)

 

 

118

(a)

 

 

12,138

 

 

 

648

 

 

 

(255

)

 

 

 

12,531

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

43,351

 

 

$

6,061

 

 

$

299 

 

 

$

49,711

 

 

$

18,126

 

 

$

(313

)

 

 

$

67,524

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(a)

Includes goodwill of $5.5 billion related to ZeniMax. See Note 8 – Business Combinations for further information.

(b)

Includes goodwill of $16.3 billion related to Nuance. See Note 8 – Business Combinations for further information.

The measurement periods for the valuation of assets acquired and liabilities assumed end as soon as information on the facts and circumstances that existed as of the acquisition dates becomes available, but do not exceed 12 months. Adjustments in purchase price allocations may require a change in the amounts allocated to goodwill during the periods in which the adjustments are determined.

Any change in the goodwill amounts resulting from foreign currency translations and purchase accounting adjustments are presented as “Other” in the table above. Also included in “Other” are business dispositions and transfers between segments due to reorganizations, as applicable.

Goodwill Impairment

We test goodwill for impairment annually on May 1 at the reporting unit level, primarily using a discounted cash flow methodology with a peer-based, risk-adjusted weighted average cost of capital. We believe use of a discounted cash flow approach is the most reliable indicator of the fair values of the businesses.

No instances of impairment were identified in our May 1, 2022, May 1, 2021, or May 1, 2020 tests. As of June 30, 2022 and 2021, accumulated goodwill impairment was $11.3 billion.

NOTE 10 INTANGIBLE ASSETS

The components of intangible assets, all of which are finite-lived, were as follows:

 

(In millions)

 

Gross
Carrying
Amount

 

 

Accumulated
Amortization

 

 

Net Carrying
Amount

 

 

Gross
Carrying
Amount

 

 

Accumulated
Amortization

 

 

Net Carrying
Amount

 

 

 

 

 

 

 

 

 

 

 

June 30,

 

 

 

 

 

 

 

2022

 

 

 

 

 

 

 

 

2021

 

 

 

 

 

 

 

 

Technology-based

 

$

11,277

 

 

$

(6,958

)

 

$

4,319

 

 

$

9,779

 

 

$

(7,007

)

 

$

2,772

 

Customer-related

 

 

7,342

 

 

 

(3,171

)

 

 

4,171

 

 

 

4,958

 

 

 

(2,859

)

 

 

2,099

 

Marketing-related

 

 

4,942

 

 

 

(2,143

)

 

 

2,799

 

 

 

4,792

 

 

 

(1,878

)

 

 

2,914

 

Contract-based

 

 

16

 

 

 

(7

)

 

 

9

 

 

 

446

 

 

 

(431

)

 

 

15

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

23,577

(a)

 

$

(12,279

)

 

$

11,298

 

 

$

19,975

(b)

 

$

(12,175

)

 

$

7,800

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(a)

Includes intangible assets of $4.4 billion related to Nuance. See Note 8 – Business Combinations for further information.

(b)

Includes intangible assets of $2.0 billion related to ZeniMax. See Note 8 – Business Combinations for further information.

No material impairments of intangible assets were identified during fiscal years 2022, 2021, or 2020. We estimate that we have no significant residual value related to our intangible assets.

79


PART II

Item 8

 

The components of intangible assets acquired during the periods presented were as follows:

 

(In millions)

 

Amount

 

 

Weighted

Average Life

 

 

Amount

 

 

Weighted

Average Life

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2022

 

 

 

 

 

2021

 

 

 

 

 

 

 

 

 

Technology-based

 

$

2,611

 

 

 

4 years

 

 

$

1,628

 

 

 

4 years

 

Customer-related

 

 

2,837

 

 

 

9 years

 

 

 

96

 

 

 

4 years

 

Marketing-related

 

 

233

 

 

 

4 years

 

 

 

625

 

 

 

6 years

 

Contract-based

 

 

0

 

 

 

0 years

 

 

 

10

 

 

 

3 years

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

5,681

 

 

 

7 years

 

 

$

 2,359

 

 

 

5 years

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Intangible assets amortization expense was $2.0 billion, $1.6 billion, and $1.6 billion for fiscal years 2022, 2021, and 2020, respectively.

The following table outlines the estimated future amortization expense related to intangible assets held as of June 30, 2022:

 

(In millions)

 

 

 

 

 

 

 

 

Year Ending June 30,

 

 

 

 

 

 

2023

 

$

2,654

 

2024

 

 

2,385

 

2025

 

 

1,631

 

2026

 

 

1,227

 

2027

 

 

809

 

Thereafter

 

 

2,592

 

 

 

 

 

 

 

 

Total

 

$

11,298

 

 

 

 

 

 

 

80


PART II

Item 8

 

 

NOTE 11 — DEBT

The components of debt were as follows:

 

(In millions, issuance by calendar year)

 

Maturities

(calendar year)

 

Stated Interest

Rate

 

 

Effective Interest

Rate

 

June 30,

2022

 

 

June 30,

2021

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2009 issuance of $3.8 billion (a)

 

 

 

 

2039

 

 

 

 

5.20%

 

 

 

 

5.24%

 

 

$

520

 

 

$

520

 

2010 issuance of $4.8 billion (a)

 

 

 

 

2040

 

 

 

 

4.50%

 

 

 

 

4.57%

 

 

 

486

 

 

 

486

 

2011 issuance of $2.3 billion (a)

 

 

 

 

2041

 

 

 

 

5.30%

 

 

 

 

5.36%

 

 

 

718

 

 

 

718

 

2012 issuance of $2.3 billion (a)

 

 

2022

2042

 

 

2.13%

3.50%

 

 

2.24%

3.57%

 

 

 

1,204

 

 

 

1,204

 

2013 issuance of $5.2 billion (a)

 

 

2023

2043

 

 

2.38%

4.88%

 

 

2.47%

4.92%

 

 

 

2,814

 

 

 

2,814

 

2013 issuance of €4.1 billion

 

 

2028

2033

 

 

2.63%

3.13%

 

 

2.69%

3.22%

 

 

 

2,404

 

 

 

4,803

 

2015 issuance of $23.8 billion (a)

 

 

2022

2055

 

 

2.65%

4.75%

 

 

2.72%

4.78%

 

 

 

10,805

 

 

 

12,305

 

2016 issuance of $19.8 billion (a)

 

 

2023

2056

 

 

2.00%

3.95%

 

 

2.10%

4.03%

 

 

 

9,430

 

 

 

12,180

 

2017 issuance of $17.0 billion (a)

 

 

2024

2057

 

 

2.88%

4.50%

 

 

3.04%

4.53%

 

 

 

8,945

 

 

 

10,695

 

2020 issuance of $10.0 billion (a)

 

 

2050

2060

 

 

2.53%

2.68%

 

 

2.53%

2.68%

 

 

 

10,000

 

 

 

10,000

 

2021 issuance of $8.2 billion (a)

 

 

2052

2062

 

 

2.92%

3.04%

 

 

2.92%

3.04%

 

 

 

8,185

 

 

 

8,185

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total face value

 

 

 

 

 

 

 

 

 

 

 

 

55,511

 

 

 

63,910

 

Unamortized discount and issuance costs

 

 

 

 

 

 

 

 

 

 

 

 

(471

)

 

 

(511

)

Hedge fair value adjustments (b)

 

 

 

 

 

 

 

 

 

 

 

 

(68

)

 

 

40

 

Premium on debt exchange (a)

 

 

 

 

 

 

 

 

 

 

 

 

(5,191

)

 

 

(5,293

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total debt

 

 

 

 

 

 

 

 

 

 

 

 

49,781

 

 

 

58,146

 

Current portion of long-term debt

 

 

 

 

 

 

 

 

 

 

 

 

(2,749

)

 

 

(8,072

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Long-term debt

 

 

 

 

 

 

 

 

 

 

 

$

47,032

 

 

$

50,074

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(a)

In March 2021 and June 2020, we exchanged a portion of our existing debt at a premium for cash and new debt with longer maturities. The premiums are amortized over the terms of the new debt.

(b)

Refer to Note 5 – Derivatives for further information on the interest rate swaps related to fixed-rate debt.

As of June 30, 2022 and 2021, the estimated fair value of long-term debt, including the current portion, was $50.9 billion and $70.0 billion, respectively. The estimated fair values are based on Level 2 inputs.

Debt in the table above is comprised of senior unsecured obligations and ranks equally with our other outstanding obligations. Interest is paid semi-annually, except for the Euro-denominated debt, which is paid annually. Cash paid for interest on our debt for fiscal years 2022, 2021, and 2020 was $1.9 billion, $2.0 billion, and $2.4 billion, respectively.

The following table outlines maturities of our long-term debt, including the current portion, as of June 30, 2022:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ending June 30,

 

 

 

 

 

 

 

 

 

2023

 

$

2,750

 

2024

 

 

5,250

 

2025

 

 

2,250

 

2026

 

 

3,000

 

2027

 

 

8,000

 

Thereafter

 

 

34,261

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

55,511

 

 

 

 

 

 

 

81


PART II

Item 8

 

 

NOTE 12 — INCOME TAXES

Provision for Income Taxes

The components of the provision for income taxes were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2022

 

 

2021

 

 

2020

 

 

 

 

 

Current Taxes

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. federal

 

$

8,329

 

 

$

3,285

 

 

$

3,537

 

U.S. state and local

 

 

1,679

 

 

 

1,229

 

 

 

763

 

Foreign

 

 

6,672

 

 

 

5,467

 

 

 

4,444

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Current taxes

 

$

16,680

 

 

$

9,981

 

 

$

8,744

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deferred Taxes

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. federal

 

$

(4,815

)

 

$

25

 

 

$

58

 

U.S. state and local

 

 

(1,062

)

 

 

(204

)

 

 

(6

)

Foreign

 

 

175

 

 

 

29

 

 

 

(41

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deferred taxes

 

$

(5,702

)

 

$

(150

)

 

$

11

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Provision for income taxes

 

$

10,978

 

 

$

9,831

 

 

$

8,755

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. and foreign components of income before income taxes were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2022

 

 

2021

 

 

2020

 

 

 

 

 

U.S.

 

$

47,837

 

 

$

34,972

 

 

$

24,116

 

Foreign

 

 

35,879

 

 

 

36,130

 

 

 

28,920

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Income before income taxes

 

$

83,716

 

 

$

71,102

 

 

$

53,036

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Effective Tax Rate

The items accounting for the difference between income taxes computed at the U.S. federal statutory rate and our effective rate were as follows:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2022

 

 

2021

 

 

2020

 

 

 

 

 

Federal statutory rate

 

 

21.0

%

 

 

21.0

%

 

 

21.0

%

Effect of:

 

 

 

 

 

 

 

 

 

 

 

 

Foreign earnings taxed at lower rates

 

 

(1.3)

%

 

 

(2.7)

%

 

 

(3.7)

%

Impact of intangible property transfers

 

 

(3.9)

%

 

 

0

%

 

 

0

%

Foreign-derived intangible income deduction

 

 

(1.1)

%

 

 

(1.3)

%

 

 

(1.1)

%

State income taxes, net of federal benefit

 

 

1.4

%

 

 

1.4

%

 

 

1.3

%

Research and development credit

 

 

(0.9)

%

 

 

(0.9)

%

 

 

(1.1)

%

Excess tax benefits relating to stock-based compensation

 

 

(1.9)

%

 

 

(2.4)

%

 

 

(2.2)

%

Interest, net

 

 

0.5

%

 

 

0.5

%

 

 

1.0

%

Other reconciling items, net

 

 

(0.7)

%

 

 

(1.8)

%

 

 

1.3

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Effective rate

 

 

13.1

%

 

 

13.8

%

 

 

16.5

%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

In the first quarter of fiscal year 2022, we transferred certain intangible properties from our Puerto Rico subsidiary to the U.S. The transfer of intangible properties resulted in a $3.3 billion net income tax benefit in the first quarter of fiscal year 2022, as the value of future U.S. tax deductions exceeds the current tax liability from the U.S. global intangible low-taxed income (“GILTI”) tax.

 

82


PART II

Item 8

 

 

We have historically paid India withholding taxes on software sales through distributor withholding and tax audit assessments in India. In March 2021, the India Supreme Court ruled favorably in the case of Engineering Analysis Centre of Excellence Private Limited vs The Commissioner of Income Tax for companies in 86 separate appeals, some dating back to 2012, holding that software sales are not subject to India withholding taxes. Although we were not a party to the appeals, our software sales in India were determined to be not subject to withholding taxes. Therefore, we recorded a net income tax benefit of $620 million in the third quarter of fiscal year 2021 to reflect the results of the India Supreme Court decision impacting fiscal year 1996 through fiscal year 2016.

 

The decrease from the federal statutory rate in fiscal year 2022 is primarily due to the net income tax benefit related to the transfer of intangible properties, earnings taxed at lower rates in foreign jurisdictions resulting from producing and distributing our products and services through our foreign regional operations center in Ireland, and tax benefits relating to stock-based compensation. The decrease from the federal statutory rate in fiscal year 2021 is primarily due to earnings taxed at lower rates in foreign jurisdictions resulting from producing and distributing our products and services through our foreign regional operations centers in Ireland and Puerto Rico, tax benefits relating to stock-based compensation, and tax benefits from the India Supreme Court decision on withholding taxes. The decrease from the federal statutory rate in fiscal year 2020 is primarily due to earnings taxed at lower rates in foreign jurisdictions resulting from producing and distributing our products and services through our foreign regional operations centers in Ireland and Puerto Rico, and tax benefits relating to stock-based compensation. In fiscal years 2022, 2021, and 2020, our foreign regional operating centers in Ireland and Puerto Rico, which are taxed at rates lower than the U.S. rate, generated 71%, 82%, and 86% of our foreign income before tax. Other reconciling items, net consists primarily of tax credits and GILTI tax, and in fiscal year 2021, includes tax benefits from the India Supreme Court decision on withholding taxes. In fiscal years 2022, 2021, and 2020, there were no individually significant other reconciling items.

The decrease in our effective tax rate for fiscal year 2022 compared to fiscal year 2021 was primarily due to a $3.3 billion net income tax benefit in the first quarter of fiscal year 2022 related to the transfer of intangible properties, offset in part by changes in the mix of our income before income taxes between the U.S. and foreign countries, as well as tax benefits in the prior year from the India Supreme Court decision on withholding taxes, an agreement between the U.S. and India tax authorities related to transfer pricing, and final Tax Cuts and Jobs Act (“TCJA”) regulations. The decrease in our effective tax rate for fiscal year 2021 compared to fiscal year 2020 was primarily due to tax benefits from the India Supreme Court decision on withholding taxes, an agreement between the U.S. and India tax authorities related to transfer pricing, final TCJA regulations, and an increase in tax benefits relating to stock-based compensation.

83


PART II

Item 8

 

The components of the deferred income tax assets and liabilities were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30,

 

2022

 

 

2021

 

 

 

 

Deferred Income Tax Assets

 

 

 

 

 

 

 

 

 

 

 

Stock-based compensation expense

 

$

601

 

 

$

502

 

Accruals, reserves, and other expenses

 

 

2,874

 

 

 

2,960

 

Loss and credit carryforwards

 

 

1,546

 

 

 

1,090

 

Amortization

 

 

10,656

 

 

 

6,346

 

Leasing liabilities

 

 

4,557

 

 

 

4,060

 

Unearned revenue

 

 

2,876

 

 

 

2,659

 

Other

 

 

461

 

 

 

319

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deferred income tax assets

 

 

23,571

 

 

 

17,936

 

Less valuation allowance

 

 

(1,012

)

 

 

(769

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deferred income tax assets, net of valuation allowance

 

$

22,559

 

 

$

17,167

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deferred Income Tax Liabilities

 

 

 

 

 

 

 

 

 

 

 

Book/tax basis differences in investments and debt

 

$

(174

)

 

$

(2,381

)

Leasing assets

 

 

(4,291

)

 

 

(3,834

)

Depreciation

 

 

(1,602

)

 

 

(1,010

)

Deferred tax on foreign earnings

 

 

(3,104

)

 

 

(2,815

)

Other

 

 

(103

)

 

 

(144

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deferred income tax liabilities

 

$

(9,274

)

 

$

(10,184

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net deferred income tax assets

 

$

13,285

 

 

$

6,983

 

 

 

 

 

 

 

 

 

 

 

 

 

Reported As

 

 

 

 

 

 

 

 

 

 

 

Other long-term assets

 

$

13,515

 

 

$

7,181

 

Long-term deferred income tax liabilities

 

 

(230

)

 

 

(198

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net deferred income tax assets

 

$

13,285

 

 

$

6,983

 

 

 

 

 

 

 

 

 

 

 

 

Deferred income tax balances reflect the effects of temporary differences between the carrying amounts of assets and liabilities and their tax bases and are stated at enacted tax rates expected to be in effect when the taxes are paid or recovered.

As of June 30, 2022, we had federal, state, and foreign net operating loss carryforwards of $318 million, $1.3 billion, and $2.1 billion, respectively. The federal and state net operating loss carryforwards will expire in various years from fiscal 2023 through 2042, if not utilized. The majority of our foreign net operating loss carryforwards do not expire. Certain acquired net operating loss carryforwards are subject to an annual limitation but are expected to be realized with the exception of those which have a valuation allowance. As of June 30, 2022, we had $1.3 billion federal capital loss carryforwards for U.S. tax purposes from our acquisition of Nuance. The federal capital loss carryforwards are subject to an annual limitation and will expire in various years from fiscal 2023 through 2025.

The valuation allowance disclosed in the table above relates to the foreign net operating loss carryforwards, federal capital loss carryforwards, and other net deferred tax assets that may not be realized.

Income taxes paid, net of refunds, were $16.0 billion, $13.4 billion, and $12.5 billion in fiscal years 2022, 2021, and 2020, respectively.

Uncertain Tax Positions

Gross unrecognized tax benefits related to uncertain tax positions as of June 30, 2022, 2021, and 2020, were $15.6 billion, $14.6 billion, and $13.8 billion, respectively, which were primarily included in long-term income taxes in our consolidated balance sheets. If recognized, the resulting tax benefit would affect our effective tax rates for fiscal years 2022, 2021, and 2020 by $13.3 billion, $12.5 billion, and $12.1 billion, respectively.

84


PART II

Item 8

 

As of June 30, 2022, 2021, and 2020, we had accrued interest expense related to uncertain tax positions of $4.3 billion, $4.3 billion, and $4.0 billion, respectively, net of income tax benefits. The provision for income taxes for fiscal years 2022, 2021, and 2020 included interest expense related to uncertain tax positions of $36 million, $274 million, and $579 million, respectively, net of income tax benefits.

The aggregate changes in the gross unrecognized tax benefits related to uncertain tax positions were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2022

 

 

2021

 

 

2020

 

 

 

 

 

Beginning unrecognized tax benefits

 

$

14,550

 

 

$

13,792

 

 

$

13,146

 

Decreases related to settlements

 

 

(317

)

 

 

(195

)

 

 

(31

)

Increases for tax positions related to the current year

 

 

1,145

 

 

 

790

 

 

 

647

 

Increases for tax positions related to prior years

 

 

461

 

 

 

461

 

 

 

366

 

Decreases for tax positions related to prior years

 

 

(246

)

 

 

(297

)

 

 

(331

)

Decreases due to lapsed statutes of limitations

 

 

0

 

 

 

(1

)

 

 

(5

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Ending unrecognized tax benefits

 

$

15,593

 

 

$

14,550

 

 

$

13,792

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

We settled a portion of the Internal Revenue Service (“IRS”) audit for tax years 2004 to 2006 in fiscal year 2011. In February 2012, the IRS withdrew its 2011 Revenue Agents Report related to unresolved issues for tax years 2004 to 2006 and reopened the audit phase of the examination. We also settled a portion of the IRS audit for tax years 2007 to 2009 in fiscal year 2016, and a portion of the IRS audit for tax years 2010 to 2013 in fiscal year 2018. In the second quarter of fiscal year 2021, we settled an additional portion of the IRS audits for tax years 2004 to 2013 and made a payment of $1.7 billion, including tax and interest. We remain under audit for tax years 2004 to 2017.

As of June 30, 2022, the primary unresolved issues for the IRS audits relate to transfer pricing, which could have a material impact in our consolidated financial statements when the matters are resolved. We believe our allowances for income tax contingencies are adequate. We have not received a proposed assessment for the unresolved key transfer pricing issues and do not expect a final resolution of these issues in the next 12 months. Based on the information currently available, we do not anticipate a significant increase or decrease to our tax contingencies for these issues within the next 12 months.

We are subject to income tax in many jurisdictions outside the U.S. Our operations in certain jurisdictions remain subject to examination for tax years 1996 to 2021, some of which are currently under audit by local tax authorities. The resolution of each of these audits is not expected to be material to our consolidated financial statements.

 

NOTE 13 — UNEARNED REVENUE

Unearned revenue by segment was as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

June 30,

 

2022

 

 

2021

 

 

 

 

Productivity and Business Processes

 

$

24,558

 

 

$

22,120

 

Intelligent Cloud

 

 

19,371

 

 

 

17,710

 

More Personal Computing

 

 

4,479

 

 

 

4,311

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

48,408

 

 

$

44,141

 

 

 

 

 

 

 

 

 

 

 

Changes in unearned revenue were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30, 2022

 

 

 

 

 

 

 

 

Balance, beginning of period

 

 

$

44,141

 

Deferral of revenue

 

 

 

110,455

 

Recognition of unearned revenue

 

 

 

(106,188

)

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

 

$

48,408

 

 

 

 

 

 

 

 

85


PART II

Item 8

 

 

Revenue allocated to remaining performance obligations, which includes unearned revenue and amounts that will be invoiced and recognized as revenue in future periods, was $193 billion as of June 30, 2022, of which $189 billion is related to the commercial portion of revenue. We expect to recognize approximately 45% of this revenue over the next 12 months and the remainder thereafter.

NOTE 14 LEASES

We have operating and finance leases for datacenters, corporate offices, research and development facilities, Microsoft Experience Centers, and certain equipment. Our leases have remaining lease terms of 1 year to 19 years, some of which include options to extend the leases for up to 5 years, and some of which include options to terminate the leases within 1 year.

The components of lease expense were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2022

 

 

 

2021

 

 

 

2020

 

 

 

 

 

 

 

 

 

 

 

Operating lease cost

 

$

2,461

 

 

$

2,127

 

 

$

2,043

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Finance lease cost:

 

 

 

 

 

 

 

 

 

 

 

 

Amortization of right-of-use assets

 

$

980

 

 

$

921

 

 

$

611

 

Interest on lease liabilities

 

 

429

 

 

 

386

 

 

 

336

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total finance lease cost

 

$

1,409

 

 

$

1,307

 

 

$

947

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Supplemental cash flow information related to leases was as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2022

 

 

 

2021

 

 

 

2020

 

 

 

 

 

 

 

 

 

 

 

Cash paid for amounts included in the measurement of lease liabilities:

 

 

 

 

 

 

 

 

 

 

 

 

Operating cash flows from operating leases

 

$

2,368

 

 

$

2,052

 

 

$

1,829

 

Operating cash flows from finance leases

 

 

429

 

 

 

386

 

 

 

336

 

Financing cash flows from finance leases

 

 

896

 

 

 

648

 

 

 

409

 

 

 

 

 

 

 

 

 

 

 

Right-of-use assets obtained in exchange for lease obligations:

 

 

 

 

 

 

 

 

 

 

 

 

Operating leases

 

 

5,268

 

 

 

4,380

 

 

 

3,677

 

Finance leases

 

 

4,234

 

 

 

3,290

 

 

 

3,467

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

86


PART II

Item 8

 

 

Supplemental balance sheet information related to leases was as follows:

 

(In millions, except lease term and discount rate)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30,

 

2022

 

 

2021

 

 

 

 

Operating Leases

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating lease right-of-use assets

 

$

13,148

 

 

$

11,088

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other current liabilities

 

$

2,228

 

 

$

1,962

 

Operating lease liabilities

 

 

11,489

 

 

 

9,629

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total operating lease liabilities

 

$

13,717

 

 

$

11,591

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Finance Leases

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Property and equipment, at cost

 

$

17,388

 

 

$

14,107

 

Accumulated depreciation

 

 

(3,285

)

 

 

(2,306

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Property and equipment, net

 

$

14,103

 

 

$

11,801

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other current liabilities

 

$

1,060

 

 

$

791

 

Other long-term liabilities

 

 

13,842

 

 

 

11,750

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total finance lease liabilities

 

$

14,902

 

 

$

12,541

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Weighted Average Remaining Lease Term

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating leases

 

 

8 years

 

 

 

8 years

 

Finance leases

 

 

12 years

 

 

 

12 years

 

 

 

 

 

 

 

 

 

 

Weighted Average Discount Rate

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating leases

 

 

2.1%

 

 

 

2.2%

 

Finance leases

 

 

3.1%

 

 

 

3.4%

 

 

 

 

 

 

 

 

 

 

 

The following table outlines maturities of our lease liabilities as of June 30, 2022:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ending June 30,

 

Operating

Leases

 

 

Finance

Leases

 

 

 

 

2023

 

$

2,456

 

 

$

1,477

 

2024

 

 

2,278

 

 

 

1,487

 

2025

 

 

1,985

 

 

 

1,801

 

2026

 

 

1,625

 

 

 

1,483

 

2027

 

 

1,328

 

 

 

1,489

 

Thereafter

 

 

5,332

 

 

 

9,931

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total lease payments

 

 

15,004

 

 

 

17,668

 

Less imputed interest

 

 

(1,287

)

 

 

(2,766

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

13,717

 

 

$

14,902

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

As of June 30, 2022, we have additional operating and finance leases, primarily for datacenters, that have not yet commenced of $7.2 billion and $8.8 billion, respectively. These operating and finance leases will commence between fiscal year 2023 and fiscal year 2028 with lease terms of 1 year to 18 years.

 

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NOTE 15 — CONTINGENCIES

Antitrust Litigation and Claims

China State Administration for Market Regulation Investigation

In 2014, Microsoft was informed that China’s State Agency for Market Regulation (“SAMR”) (formerly State Administration for Industry and Commerce) had begun a formal investigation relating to China’s Anti-Monopoly Law, and the SAMR conducted onsite inspections of Microsoft offices in Beijing, Shanghai, Guangzhou, and Chengdu. In 2019, the SAMR presented preliminary views as to certain possible violations of China’s Anti-Monopoly Law.

Product-Related Litigation

U.S. Cell Phone Litigation

Microsoft Mobile Oy, a subsidiary of Microsoft, along with other handset manufacturers and network operators, is a defendant in 46 lawsuits, including 45 lawsuits filed in the Superior Court for the District of Columbia by individual plaintiffs who allege that radio emissions from cellular handsets caused their brain tumors and other adverse health effects. We assumed responsibility for these claims in our agreement to acquire Nokia’s Devices and Services business and have been substituted for the Nokia defendants. Nine of these cases were filed in 2002 and are consolidated for certain pre-trial proceedings; the remaining cases are stayed. In a separate 2009 decision, the Court of Appeals for the District of Columbia held that adverse health effect claims arising from the use of cellular handsets that operate within the U.S. Federal Communications Commission radio frequency emission guidelines (“FCC Guidelines”) are pre-empted by federal law. The plaintiffs allege that their handsets either operated outside the FCC Guidelines or were manufactured before the FCC Guidelines went into effect. The lawsuits also allege an industry-wide conspiracy to manipulate the science and testing around emission guidelines.

In 2013, the defendants in the consolidated cases moved to exclude the plaintiffs’ expert evidence of general causation on the basis of flawed scientific methodologies. In 2014, the trial court granted in part and denied in part the defendants’ motion to exclude the plaintiffs’ general causation experts. The defendants filed an interlocutory appeal to the District of Columbia Court of Appeals challenging the standard for evaluating expert scientific evidence. In October 2016, the Court of Appeals issued its decision adopting the standard advocated by the defendants and remanding the cases to the trial court for further proceedings under that standard. The plaintiffs have filed supplemental expert evidence, portions of which the defendants have moved to strike. In August 2018, the trial court issued an order striking portions of the plaintiffs’ expert reports. A hearing on general causation is scheduled for September of 2022.

Other Contingencies

We also are subject to a variety of other claims and suits that arise from time to time in the ordinary course of our business. Although management currently believes that resolving claims against us, individually or in aggregate, will not have a material adverse impact in our consolidated financial statements, these matters are subject to inherent uncertainties and management’s view of these matters may change in the future.

As of June 30, 2022, we accrued aggregate legal liabilities of $364 million. While we intend to defend these matters vigorously, adverse outcomes that we estimate could reach approximately $600 million in aggregate beyond recorded amounts are reasonably possible. Were unfavorable final outcomes to occur, there exists the possibility of a material adverse impact in our consolidated financial statements for the period in which the effects become reasonably estimable.

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NOTE 16 STOCKHOLDERS’ EQUITY

Shares Outstanding

Shares of common stock outstanding were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2022

 

 

2021

 

 

2020

 

 

 

 

 

Balance, beginning of year

 

 

7,519

 

 

 

7,571

 

 

 

7,643

 

Issued

 

 

40

 

 

 

49

 

 

 

54

 

Repurchased

 

 

(95

)

 

 

(101

)

 

 

(126

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of year

 

 

7,464

 

 

 

7,519

 

 

 

7,571

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Share Repurchases

On September 20, 2016, our Board of Directors approved a share repurchase program authorizing up to $40.0 billion in share repurchases. This share repurchase program commenced in December 2016 and was completed in February 2020.

On September 18, 2019, our Board of Directors approved a share repurchase program authorizing up to $40.0 billion in share repurchases. This share repurchase program commenced in February 2020 and was completed in November 2021.

On September 14, 2021, our Board of Directors approved a share repurchase program authorizing up to $60.0 billion in share repurchases. This share repurchase program commenced in November 2021, following completion of the program approved on September 18, 2019, has no expiration date, and may be terminated at any time. As of June 30, 2022, $40.7 billion remained of this $60.0 billion share repurchase program.

We repurchased the following shares of common stock under the share repurchase programs:

 

(In millions)

 

Shares

 

 

Amount

 

 

Shares

 

 

Amount

 

 

Shares

 

 

Amount

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

 

2022

 

 

 

2021

 

 

 

2020

 

 

 

 

 

 

 

 

First Quarter

 

 

21

 

 

$

6,200

 

 

 

25

 

 

$

5,270

 

 

 

29

 

 

$

4,000

 

Second Quarter

 

 

20

 

 

 

6,233

 

 

 

27

 

 

 

5,750

 

 

 

32

 

 

 

4,600

 

Third Quarter

 

 

26

 

 

 

7,800

 

 

 

25

 

 

 

5,750

 

 

 

37

 

 

 

6,000

 

Fourth Quarter

 

 

28

 

 

 

7,800

 

 

 

24

 

 

 

6,200

 

 

 

28

 

 

 

5,088

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

 

95

 

 

$

28,033

 

 

 

101

 

 

$

22,970

 

 

 

126

 

 

$

19,688

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

All repurchases were made using cash resources. Shares repurchased during the fourth and third quarters of fiscal year 2022 were under the share repurchase program approved on September 14, 2021. Shares repurchased during the second quarter of fiscal year 2022 were under the share repurchase programs approved on both September 14, 2021 and September 18, 2019. Shares repurchased during the first quarter of fiscal year 2022, fiscal year 2021, and the fourth quarter of fiscal year 2020 were under the share repurchase program approved on September 18, 2019. Shares repurchased during the third quarter of fiscal year 2020 were under the share repurchase programs approved on both September 20, 2016 and September 18, 2019. All other shares repurchased were under the share repurchase program approved on September 20, 2016. The above table excludes shares repurchased to settle employee tax withholding related to the vesting of stock awards of $4.7 billion, $4.4 billion, and $3.3 billion for fiscal years 2022, 2021, and 2020, respectively.

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PART II

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Dividends

Our Board of Directors declared the following dividends:

 

Declaration Date

Record Date

 

 

Payment Date

 

Dividend

Per Share

 

 

Amount

 

 

 

 

 

Fiscal Year 2022

 

 

 

 

 

 

 

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

September 14, 2021

 

 

November 18, 2021

 

 

 

December 9, 2021

 

 

$

0.62

 

 

$

4,652

 

December 7, 2021

 

 

February 17, 2022

 

 

 

March 10, 2022

 

 

 

0.62

 

 

 

4,645

 

March 14, 2022

 

 

May 19, 2022

 

 

 

June 9, 2022

 

 

 

0.62

 

 

 

4,632

 

June 14, 2022

 

 

August 18, 2022

 

 

 

September 8, 2022

 

 

 

0.62

 

 

 

4,627

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

 

 

 

 

 

 

 

 

$

2.48

 

 

$

18,556

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fiscal Year 2021

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

September 15, 2020

 

 

November 19, 2020

 

 

 

December 10, 2020

 

 

$

0.56

 

 

$

4,230

 

December 2, 2020

 

 

February 18, 2021

 

 

 

March 11, 2021

 

 

 

0.56

 

 

 

4,221

 

March 16, 2021

 

 

May 20, 2021

 

 

 

June 10, 2021

 

 

 

0.56

 

 

 

4,214

 

June 16, 2021

 

 

August 19, 2021

 

 

 

September 9, 2021

 

 

 

0.56

 

 

 

4,206

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

 

 

 

 

 

 

 

 

$

2.24

 

 

$

16,871

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

The dividend declared on June 14, 2022 was included in other current liabilities as of June 30, 2022.

 

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NOTE 17 — ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS)

The following table summarizes the changes in accumulated other comprehensive income (loss) by component:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2022

 

 

2021

 

 

2020

 

 

 

 

 

Derivatives

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

$

(19

)

 

$

(38

)

 

$

0

 

Unrealized gains (losses), net of tax of $(15), $9, and $(10)

 

 

(57

)

 

 

34

 

 

 

(38

)

Reclassification adjustments for (gains) losses included in other income (expense), net

 

 

79

 

 

 

(17

)

 

 

0

 

Tax expense (benefit) included in provision for income taxes

 

 

(16

)

 

 

2

 

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Amounts reclassified from accumulated other comprehensive income (loss)

 

 

63

 

 

 

(15

)

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net change related to derivatives, net of tax of $1, $7, and $(10)

 

 

6

 

 

 

19

 

 

 

(38

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

$

(13

)

 

$

(19

)

 

$

(38

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Investments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

$

3,222

 

 

$

5,478

 

 

$

1,488

 

Unrealized gains (losses), net of tax of $(1,440), $(589), and $1,057

 

 

(5,405

)

 

 

(2,216

)

 

 

3,987

 

Reclassification adjustments for (gains) losses included in other income (expense), net

 

 

57

 

 

 

(63

)

 

 

4

 

Tax expense (benefit) included in provision for income taxes

 

 

(12

)

 

 

13

 

 

 

(1

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Amounts reclassified from accumulated other comprehensive income (loss)

 

 

45

 

 

 

(50

)

 

 

3

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net change related to investments, net of tax of $(1,428), $(602), and $1,058

 

 

(5,360

)

 

 

(2,266

)

 

 

3,990

 

Cumulative effect of accounting changes

 

 

0

 

 

 

10

 

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

$

(2,138

)

 

$

3,222

 

 

$

5,478

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Translation Adjustments and Other

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

$

(1,381

)

 

$

(2,254

)

 

$

 (1,828

)

Translation adjustments and other, net of tax of $0, $(9), and $1

 

 

(1,146

)

 

 

873

 

 

 

(426

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

$

(2,527

)

 

$

(1,381

)

 

$

(2,254

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Accumulated other comprehensive income (loss), end of period

 

$

(4,678

)

 

$

1,822

 

 

$

3,186

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

NOTE 18 — EMPLOYEE STOCK AND SAVINGS PLANS

We grant stock-based compensation to employees and directors. Awards that expire or are canceled without delivery of shares generally become available for issuance under the plans. We issue new shares of Microsoft common stock to satisfy vesting of awards granted under our stock plans. We also have an ESPP for all eligible employees.

Stock-based compensation expense and related income tax benefits were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2022

 

 

2021

 

 

2020

 

 

 

 

 

Stock-based compensation expense

 

$

7,502

 

 

$

6,118

 

 

$

5,289

 

Income tax benefits related to stock-based compensation

 

 

1,293

 

 

 

1,065

 

 

 

938

 

 

 

Stock Plans

Stock awards entitle the holder to receive shares of Microsoft common stock as the award vests. Stock awards generally vest over a service period of four years or five years.

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Executive Incentive Plan

Under the Executive Incentive Plan, the Compensation Committee approves stock awards to executive officers and certain senior executives. RSUs generally vest ratably over a service period of four years. PSUs generally vest over a performance period of three years. The number of shares the PSU holder receives is based on the extent to which the corresponding performance goals have been achieved.

Activity for All Stock Plans

The fair value of stock awards was estimated on the date of grant using the following assumptions:

 

 

 

 

 

 

 

 

 

 

 

 

Year ended June 30,

 

 

 

 

2022

 

 

 

 

 

2021

 

 

 

 

 

2020

 

 

 

 

 

 

 

Dividends per share (quarterly amounts)

 

$

0.56

0.62

 

$

 

0.51

0.56

 

 

$

0.46

0.51

 

Interest rates

 

 

0.03%

3.6%

 

 

 

0.01%

1.5%

 

 

 

0.1%

2.2%

 

 

 

 

 

 

During fiscal year 2022, the following activity occurred under our stock plans:

 

Shares

 

 

Weighted Average

Grant-Date Fair

Value

 

 

 

 

 

(In millions)

 

 

 

 

 

Stock Awards

 

 

 

 

Nonvested balance, beginning of year

 

 

100

 

 

 $

152.51

 

Granted (a)

 

 

50

 

 

 

291.22

 

Vested

 

 

(47

)

 

 

143.10

 

Forfeited

 

 

(10

)

 

 

189.88

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Nonvested balance, end of year

 

 

93

 

 

 $

227.59

 

 

 

 

 

 

 

 

 

 

 

(a)

Includes 1 million, 2 million, and 2 million of PSUs granted at target and performance adjustments above target levels for fiscal years 2022, 2021, and 2020, respectively.

 

As of June 30, 2022, there was approximately $16.7 billion of total unrecognized compensation costs related to stock awards. These costs are expected to be recognized over a weighted average period of three years. The weighted average grant-date fair value of stock awards granted was $291.22, $221.13, and $140.49 for fiscal years 2022, 2021, and 2020, respectively. The fair value of stock awards vested was $14.1 billion, $13.4 billion, and $10.1 billion, for fiscal years 2022, 2021, and 2020, respectively. As of June 30, 2022, an aggregate of 211 million shares were authorized for future grant under our stock plans.

Employee Stock Purchase Plan

We have an ESPP for all eligible employees. Shares of our common stock may be purchased by employees at three-month intervals at 90% of the fair market value on the last trading day of each three-month period. Employees may purchase shares having a value not exceeding 15% of their gross compensation during an offering period. Under the terms of the ESPP that were approved in 2012, the plan was set to terminate on December 31, 2022. At our 2021 Annual Shareholders Meeting, our shareholders approved a successor ESPP with a January 1, 2022 effective date and ten-year expiration of December 31, 2031. No additional shares were requested at this meeting.

Employees purchased the following shares during the periods presented:

 

(Shares in millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2022

 

 

2021

 

 

2020

 

 

 

 

 

Shares purchased

 

 

7

 

 

 

8

 

 

 

9

 

Average price per share

 

$

259.55

 

 

$

207.88

 

 

$

142.22

 

 

 

 

As of June 30, 2022, 81 million shares of our common stock were reserved for future issuance through the ESPP.

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Savings Plans

We have savings plans in the U.S. that qualify under Section 401(k) of the Internal Revenue Code, and a number of savings plans in international locations. Eligible U.S. employees may contribute a portion of their salary into the savings plans, subject to certain limitations. We match a portion of each dollar a participant contributes into the plans. Employer-funded retirement benefits for all plans were $1.4 billion, $1.2 billion, and $1.0 billion in fiscal years 2022, 2021, and 2020, respectively, and were expensed as contributed.

NOTE 19 — SEGMENT INFORMATION AND GEOGRAPHIC DATA

In its operation of the business, management, including our chief operating decision maker, who is also our Chief Executive Officer, reviews certain financial information, including segmented internal profit and loss statements prepared on a basis not consistent with GAAP. During the periods presented, we reported our financial performance based on the following segments: Productivity and Business Processes, Intelligent Cloud, and More Personal Computing.

Our reportable segments are described below.

Productivity and Business Processes

Our Productivity and Business Processes segment consists of products and services in our portfolio of productivity, communication, and information services, spanning a variety of devices and platforms. This segment primarily comprises:

 

Office Commercial (Office 365 subscriptions, the Office 365 portion of Microsoft 365 Commercial subscriptions, and Office licensed on-premises), comprising Office, Exchange, SharePoint, Microsoft Teams, Office 365 Security and Compliance, and Microsoft Viva.

 

Office Consumer, including Microsoft 365 Consumer subscriptions, Office licensed on-premises, and other Office services.

 

LinkedIn, including Talent Solutions, Marketing Solutions, Premium Subscriptions, and Sales Solutions.

 

Dynamics business solutions, including Dynamics 365, comprising a set of intelligent, cloud-based applications across ERP, CRM, Customer Insights, Power Apps, and Power Automate; and on-premises ERP and CRM applications.

Intelligent Cloud

Our Intelligent Cloud segment consists of our public, private, and hybrid server products and cloud services that can power modern business and developers. This segment primarily comprises:

 

Server products and cloud services, including Azure and other cloud services; SQL Server, Windows Server, Visual Studio, System Center, and related Client Access Licenses (“CALs”); and Nuance and GitHub.

 

Enterprise Services, including Enterprise Support Services, Microsoft Consulting Services, and Nuance professional services.

More Personal Computing

Our More Personal Computing segment consists of products and services that put customers at the center of the experience with our technology. This segment primarily comprises:

 

Windows, including Windows OEM licensing and other non-volume licensing of the Windows operating system; Windows Commercial, comprising volume licensing of the Windows operating system, Windows cloud services, and other Windows commercial offerings; patent licensing; and Windows Internet of Things.

 

Devices, including Surface and PC accessories.

 

Gaming, including Xbox hardware and Xbox content and services, comprising first- and third-party content (including games and in-game content), Xbox Game Pass and other subscriptions, Xbox Cloud Gaming, third-party disc royalties, advertising, and other cloud services.

 

Search and news advertising.

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Revenue and costs are generally directly attributed to our segments. However, due to the integrated structure of our business, certain revenue recognized and costs incurred by one segment may benefit other segments. Revenue from certain contracts is allocated among the segments based on the relative value of the underlying products and services, which can include allocation based on actual prices charged, prices when sold separately, or estimated costs plus a profit margin. Cost of revenue is allocated in certain cases based on a relative revenue methodology. Operating expenses that are allocated primarily include those relating to marketing of products and services from which multiple segments benefit and are generally allocated based on relative gross margin.

In addition, certain costs incurred at a corporate level that are identifiable and that benefit our segments are allocated to them. These allocated costs include legal, including settlements and fines, information technology, human resources, finance, excise taxes, field selling, shared facilities services, and customer service and support. Each allocation is measured differently based on the specific facts and circumstances of the costs being allocated.

Segment revenue and operating income were as follows during the periods presented:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

 

2022

 

 

 

2021

 

 

 

2020

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Revenue

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Productivity and Business Processes

 

$

63,364

 

 

$

53,915

 

 

$

46,398

 

Intelligent Cloud

 

 

75,251

 

 

 

60,080

 

 

 

48,366

 

More Personal Computing

 

 

59,655

 

 

 

54,093

 

 

 

48,251

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

198,270

 

 

$

168,088

 

 

$

143,015

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating Income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Productivity and Business Processes

 

$

29,687

 

 

$

24,351

 

 

$

18,724

 

Intelligent Cloud

 

 

32,721

 

 

 

26,126

 

 

 

18,324

 

More Personal Computing

 

 

20,975

 

 

 

19,439

 

 

 

15,911

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

83,383

 

 

$

69,916

 

 

$

52,959

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

No sales to an individual customer or country other than the United States accounted for more than 10% of revenue for fiscal years 2022, 2021, or 2020. Revenue, classified by the major geographic areas in which our customers were located, was as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2022

 

 

2021

 

 

2020

 

 

 

 

 

United States (a)

 

$

100,218

 

 

$

83,953

 

 

$

73,160

 

Other countries

 

 

98,052

 

 

 

84,135

 

 

 

69,855

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

198,270

 

 

$

168,088

 

 

$

143,015

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(a)

Includes billings to OEMs and certain multinational organizations because of the nature of these businesses and the impracticability of determining the geographic source of the revenue.

94


PART II

Item 8

 

Revenue, classified by significant product and service offerings, was as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2022

 

 

2021

 

 

2020

 

 

 

 

 

Server products and cloud services

 

$

67,321

 

 

$

52,589

 

 

$

41,379

 

Office products and cloud services

 

 

44,862

 

 

 

39,872

 

 

 

35,316

 

Windows

 

 

24,761

 

 

 

22,488

 

 

 

21,510

 

Gaming

 

 

16,230

 

 

 

15,370

 

 

 

11,575

 

LinkedIn

 

 

13,816

 

 

 

10,289

 

 

 

8,077

 

Search and news advertising

 

 

11,591

 

 

 

9,267

 

 

 

8,524

 

Enterprise Services

 

 

7,407

 

 

 

6,943

 

 

 

6,409

 

Devices

 

 

6,991

 

 

 

6,791

 

 

 

6,457

 

Other

 

 

5,291

 

 

 

4,479

 

 

 

3,768

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

198,270

 

 

$

168,088

 

 

$

143,015

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

We have recast certain previously reported amounts in the table above to conform to the way we internally manage and monitor our business.

Our Microsoft Cloud (formerly commercial cloud) revenue, which includes Azure and other cloud services, Office 365 Commercial, the commercial portion of LinkedIn, Dynamics 365, and other commercial cloud properties, was $91.2 billion, $69.1 billion and $51.7 billion in fiscal years 2022, 2021, and 2020, respectively. These amounts are primarily included in Server products and cloud services, Office products and cloud services, and LinkedIn in the table above.

Assets are not allocated to segments for internal reporting presentations. A portion of amortization and depreciation is included with various other costs in an overhead allocation to each segment. It is impracticable for us to separately identify the amount of amortization and depreciation by segment that is included in the measure of segment profit or loss.

Long-lived assets, excluding financial instruments and tax assets, classified by the location of the controlling statutory company and with countries over 10% of the total shown separately, were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

June 30,

 

2022

 

 

2021

 

 

2020

 

 

 

 

 

United States

 

$

106,430

 

 

$

76,153

 

 

$

60,789

 

Ireland

 

 

15,505

 

 

 

13,303

 

 

 

12,734

 

Other countries

 

 

44,433

 

 

 

38,858

 

 

 

29,770

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

166,368

 

 

$

 128,314

 

 

$

 103,293

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

95


PART II

Item 8

 

 

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the Stockholders and the Board of Directors of Microsoft Corporation

Opinion on the Financial Statements

We have audited the accompanying consolidated balance sheets of Microsoft Corporation and subsidiaries (the "Company") as of June 30, 2022 and 2021, the related consolidated statements of income, comprehensive income, cash flows, and stockholders' equity, for each of the three years in the period ended June 30, 2022, and the related notes (collectively referred to as the "financial statements"). In our opinion, the financial statements present fairly, in all material respects, the financial position of the Company as of June 30, 2022 and 2021, and the results of its operations and its cash flows for each of the three years in the period ended June 30, 2022, in conformity with accounting principles generally accepted in the United States of America.

We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the Company's internal control over financial reporting as of June 30, 2022, based on criteria established in Internal Control — Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated July 28, 2022, expressed an unqualified opinion on the Company's internal control over financial reporting.

Basis for Opinion

These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on the Company's financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.

Critical Audit Matters

The critical audit matters communicated below are matters arising from the current-period audit of the financial statements that were communicated or required to be communicated to the audit committee and that (1) relate to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the financial statements, taken as a whole, and we are not, by communicating the critical audit matters below, providing separate opinions on the critical audit matters or on the accounts or disclosures to which they relate.


96


PART II

Item 8

 

 

Revenue Recognition – Refer to Note 1 to the financial statements

Critical Audit Matter Description

The Company recognizes revenue upon transfer of control of promised products or services to customers in an amount that reflects the consideration the Company expects to receive in exchange for those products or services. The Company offers customers the ability to acquire multiple licenses of software products and services, including cloud-based services, in its customer agreements through its volume licensing programs.

Significant judgment is exercised by the Company in determining revenue recognition for these customer agreements, and includes the following:

 

Determination of whether products and services are considered distinct performance obligations that should be accounted for separately versus together, such as software licenses and related services that are sold with cloud-based services.

 

 

The pattern of delivery (i.e., timing of when revenue is recognized) for each distinct performance obligation.

 

 

Identification and treatment of contract terms that may impact the timing and amount of revenue recognized (e.g., variable consideration, optional purchases, and free services).

 

 

Determination of stand-alone selling prices for each distinct performance obligation and for products and services that are not sold separately.

 

Given these factors and due to the volume of transactions, the related audit effort in evaluating management's judgments in determining revenue recognition for these customer agreements was extensive and required a high degree of auditor judgment.

How the Critical Audit Matter Was Addressed in the Audit

Our principal audit procedures related to the Company's revenue recognition for these customer agreements included the following:

 

We tested the effectiveness of controls related to the identification of distinct performance obligations, the determination of the timing of revenue recognition, and the estimation of variable consideration.

 

 

We evaluated management's significant accounting policies related to these customer agreements for reasonableness.

 

 

We selected a sample of customer agreements and performed the following procedures:

 

 

-

Obtained and read contract source documents for each selection, including master agreements, and other documents that were part of the agreement.

 

 

-

Tested management's identification and treatment of contract terms.

 

 

-

Assessed the terms in the customer agreement and evaluated the appropriateness of management's application of their accounting policies, along with their use of estimates, in the determination of revenue recognition conclusions.

 

 

We evaluated the reasonableness of management's estimate of stand-alone selling prices for products and services that are not sold separately.

 

 

We tested the mathematical accuracy of management's calculations of revenue and the associated timing of revenue recognized in the financial statements.

 


97


PART II

Item 8

 

 

Income Taxes – Uncertain Tax Positions – Refer to Note 12 to the financial statements

Critical Audit Matter Description

The Company's long-term income taxes liability includes uncertain tax positions related to transfer pricing issues that remain unresolved with the Internal Revenue Service ("IRS"). The Company remains under IRS audit, or subject to IRS audit, for tax years subsequent to 2003. While the Company has settled a portion of the IRS audits, resolution of the remaining matters could have a material impact on the Company's financial statements.

Conclusions on recognizing and measuring uncertain tax positions involve significant estimates and management judgment and include complex considerations of the Internal Revenue Code, related regulations, tax case laws, and prior-year audit settlements. Given the complexity and the subjective nature of the transfer pricing issues that remain unresolved with the IRS, evaluating management's estimates relating to their determination of uncertain tax positions required extensive audit effort and a high degree of auditor judgment, including involvement of our tax specialists.

How the Critical Audit Matter Was Addressed in the Audit

Our principal audit procedures to evaluate management's estimates of uncertain tax positions related to unresolved transfer pricing issues included the following:

 

We evaluated the appropriateness and consistency of management's methods and assumptions used in the identification, recognition, measurement, and disclosure of uncertain tax positions, which included testing the effectiveness of the related internal controls.

 

 

We read and evaluated management's documentation, including relevant accounting policies and information obtained by management from outside tax specialists, that detailed the basis of the uncertain tax positions.

 

 

We tested the reasonableness of management's judgments regarding the future resolution of the uncertain tax positions, including an evaluation of the technical merits of the uncertain tax positions.

 

 

For those uncertain tax positions that had not been effectively settled, we evaluated whether management had appropriately considered new information that could significantly change the recognition, measurement or disclosure of the uncertain tax positions.

 

 

We evaluated the reasonableness of management's estimates by considering how tax law, including statutes, regulations and case law, impacted management's judgments.

 

 

/s/ DELOITTE & TOUCHE LLP

 

Seattle, Washington

July 28, 2022

 

We have served as the Company's auditor since 1983.

 

 

98


PART II

Item 9, 9A

 

 


YEAR 2021

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

INCOME STATEMENTS

 

(In millions, except per share amounts)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2021

 

 

2020

 

 

2019

 

 

 

 

 

Revenue:

 

 

 

 

 

 

 

 

 

 

 

 

Product

 

$

71,074

 

 

$

68,041

 

 

$

66,069

 

Service and other

 

 

97,014

 

 

 

74,974

 

 

 

59,774

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total revenue

 

 

168,088

 

 

 

143,015

 

 

 

125,843

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cost of revenue:

 

 

 

 

 

 

 

 

 

 

 

 

Product

 

 

18,219

 

 

 

16,017

 

 

 

16,273

 

Service and other

 

 

34,013

 

 

 

30,061

 

 

 

26,637

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total cost of revenue

 

 

52,232

 

 

 

46,078

 

 

 

42,910

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross margin

 

 

115,856

 

 

 

96,937

 

 

 

82,933

 

Research and development

 

 

20,716

 

 

 

19,269

 

 

 

16,876

 

Sales and marketing

 

 

20,117

 

 

 

19,598

 

 

 

18,213

 

General and administrative

 

 

5,107

 

 

 

5,111

 

 

 

4,885

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating income

 

 

69,916

 

 

 

52,959

 

 

 

42,959

 

Other income, net

 

 

1,186

 

 

 

77

 

 

 

729

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Income before income taxes

 

 

71,102

 

 

 

53,036

 

 

 

43,688

 

Provision for income taxes

 

 

9,831

 

 

 

8,755

 

 

 

4,448

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

$

61,271

 

 

$

44,281

 

 

$

39,240

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Earnings per share:

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

$

8.12

 

 

$

5.82

 

 

$

5.11

 

Diluted

 

$

8.05

 

 

$

5.76

 

 

$

5.06

 

 

 

 

 

Weighted average shares outstanding:

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

 

7,547

 

 

 

7,610

 

 

 

7,673

 

Diluted

 

 

7,608

 

 

 

7,683

 

 

 

7,753

 

 

 

 

Refer to accompanying notes.

 

57


PART II

Item 8

 

COMPREHENSIVE INCOME STATEMENTS

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2021

 

 

2020

 

 

2019

 

 

 

 

 

Net income

 

$

61,271

 

 

$

44,281

 

 

$

39,240

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other comprehensive income (loss), net of tax:

 

 

 

 

 

 

 

 

 

 

 

 

Net change related to derivatives

 

 

19

 

 

 

(38

)

 

 

(173

)

Net change related to investments

 

 

(2,266

)

 

 

3,990

 

 

 

2,405

 

Translation adjustments and other

 

 

873

 

 

 

(426

)

 

 

(318

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other comprehensive income (loss)

 

 

(1,374

)

 

 

3,526

 

 

 

1,914

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Comprehensive income

 

$

59,897

 

 

$

47,807

 

 

$

41,154

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Refer to accompanying notes.

 

 

 

58


PART II

Item 8

 

BALANCE SHEETS

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

June 30,

 

2021

 

 

2020

 

 

 

 

Assets

 

 

 

 

 

 

 

 

Current assets:

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

14,224

 

 

$

13,576

 

Short-term investments

 

 

116,110

 

 

 

122,951

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total cash, cash equivalents, and short-term investments

 

 

130,334

 

 

 

136,527

 

Accounts receivable, net of allowance for doubtful accounts of $751 and $788

 

 

38,043

 

 

 

32,011

 

Inventories

 

 

2,636

 

 

 

1,895

 

Other current assets

 

 

13,393

 

 

 

11,482

 

 

 

 

 

 

 

 

 

 

 

 

 

Total current assets

 

 

184,406

 

 

 

181,915

 

Property and equipment, net of accumulated depreciation of $51,351 and $43,197

 

 

59,715

 

 

 

44,151

 

Operating lease right-of-use assets

 

 

11,088

 

 

 

8,753

 

Equity investments

 

 

5,984

 

 

 

2,965

 

Goodwill

 

 

49,711

 

 

 

43,351

 

Intangible assets, net

 

 

7,800

 

 

 

7,038

 

Other long-term assets

 

 

15,075

 

 

 

13,138

 

 

 

 

 

 

 

 

 

 

 

 

 

Total assets

 

$

333,779

 

 

$

301,311

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Liabilities and stockholders’ equity

 

 

 

 

 

 

 

 

Current liabilities:

 

 

 

 

 

 

 

 

Accounts payable

 

$

15,163

 

 

$

12,530

 

Current portion of long-term debt

 

 

8,072

 

 

 

3,749

 

Accrued compensation

 

 

10,057

 

 

 

7,874

 

Short-term income taxes

 

 

2,174

 

 

 

2,130

 

Short-term unearned revenue

 

 

41,525

 

 

 

36,000

 

Other current liabilities

 

 

11,666

 

 

 

10,027

 

 

 

 

 

 

 

 

 

 

 

 

 

Total current liabilities

 

 

88,657

 

 

 

72,310

 

Long-term debt

 

 

50,074

 

 

 

59,578

 

Long-term income taxes

 

 

27,190

 

 

 

29,432

 

Long-term unearned revenue

 

 

2,616

 

 

 

3,180

 

Deferred income taxes

 

 

198

 

 

 

204

 

Operating lease liabilities

 

 

9,629

 

 

 

7,671

 

Other long-term liabilities

 

 

13,427

 

 

 

10,632

 

 

 

 

 

 

 

 

 

 

 

 

 

Total liabilities

 

 

191,791

 

 

 

183,007

 

 

 

 

 

 

 

 

 

 

 

 

 

Commitments and contingencies

 

 

 

 

 

 

 

 

Stockholders’ equity:

 

 

 

 

 

 

 

 

Common stock and paid-in capital – shares authorized 24,000; outstanding 7,519 and 7,571

 

 

83,111

 

 

 

80,552

 

Retained earnings

 

 

57,055

 

 

 

34,566

 

Accumulated other comprehensive income

 

 

1,822

 

 

 

3,186

 

 

 

 

 

 

 

 

 

 

 

 

 

Total stockholders’ equity

 

 

141,988

 

 

 

118,304

 

 

 

 

 

 

 

 

 

 

 

 

 

Total liabilities and stockholders’ equity

 

$

333,779

 

 

$

301,311

 

 

 

 

 

 

 

 

 

 

 

Refer to accompanying notes.

 

59


PART II

Item 8

 

CASH FLOWS STATEMENTS

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2021

 

 

2020

 

 

2019

 

 

 

 

 

Operations

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

$

61,271

 

 

$

44,281

 

 

$

39,240

 

Adjustments to reconcile net income to net cash from operations:

 

 

 

 

 

 

 

 

 

 

 

 

Depreciation, amortization, and other

 

 

11,686

 

 

 

12,796

 

 

 

11,682

 

Stock-based compensation expense

 

 

6,118

 

 

 

5,289

 

 

 

4,652

 

Net recognized gains on investments and derivatives

 

 

(1,249

)

 

 

(219

)

 

 

(792

)

Deferred income taxes

 

 

(150

)

 

 

11

 

 

 

(6,463

)

Changes in operating assets and liabilities:

 

 

 

 

 

 

 

 

 

 

 

 

Accounts receivable

 

 

(6,481

)

 

 

(2,577

)

 

 

(2,812

)

Inventories

 

 

(737

)

 

 

168

 

 

 

597

 

Other current assets

 

 

(932

)

 

 

(2,330

)

 

 

(1,718

)

Other long-term assets

 

 

(3,459

)

 

 

(1,037

)

 

 

(1,834

)

Accounts payable

 

 

2,798

 

 

 

3,018

 

 

 

232

 

Unearned revenue

 

 

4,633

 

 

 

2,212

 

 

 

4,462

 

Income taxes

 

 

(2,309

)

 

 

(3,631

)

 

 

2,929

 

Other current liabilities

 

 

4,149

 

 

 

1,346

 

 

 

1,419

 

Other long-term liabilities

 

 

1,402

 

 

 

1,348

 

 

 

591

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net cash from operations

 

 

76,740

 

 

 

60,675

 

 

 

52,185

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Financing

 

 

 

 

 

 

 

 

 

 

 

 

Cash premium on debt exchange

 

 

(1,754

)

 

 

(3,417

)

 

 

0

 

Repayments of debt

 

 

(3,750

)

 

 

(5,518

)

 

 

(4,000

)

Common stock issued

 

 

1,693

 

 

 

1,343

 

 

 

1,142

 

Common stock repurchased

 

 

(27,385

)

 

 

(22,968

)

 

 

(19,543

)

Common stock cash dividends paid

 

 

(16,521

)

 

 

(15,137

)

 

 

(13,811

)

Other, net

 

 

(769

)

 

 

(334

)

 

 

(675

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net cash used in financing

 

 

(48,486

)

 

 

(46,031

)

 

 

(36,887

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Investing

 

 

 

 

 

 

 

 

 

 

 

 

Additions to property and equipment

 

 

(20,622

)

 

 

(15,441

)

 

 

(13,925

)

Acquisition of companies, net of cash acquired, and purchases of intangible and other assets

 

 

(8,909

)

 

 

(2,521

)

 

 

(2,388

)

Purchases of investments

 

 

(62,924

)

 

 

(77,190

)

 

 

(57,697

)

Maturities of investments

 

 

51,792

 

 

 

66,449

 

 

 

20,043

 

Sales of investments

 

 

14,008

 

 

 

17,721

 

 

 

38,194

 

Other, net

 

 

(922

)

 

 

(1,241

)

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net cash used in investing

 

 

(27,577

)

 

 

(12,223

)

 

 

(15,773

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Effect of foreign exchange rates on cash and cash equivalents

 

 

(29

)

 

 

(201

)

 

 

(115

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net change in cash and cash equivalents

 

 

648

 

 

 

2,220

 

 

 

(590

)

Cash and cash equivalents, beginning of period

 

 

13,576

 

 

 

11,356

 

 

 

11,946

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash and cash equivalents, end of period

 

$

14,224

 

 

$

13,576

 

 

$

11,356

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Refer to accompanying notes.

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PART II

Item 8

 

STOCKHOLDERS’ EQUITY STATEMENTS

 

(In millions, except per share amounts)

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2021

 

 

2020

 

 

2019

 

 

 

 

 

Common stock and paid-in capital

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

$

80,552

 

 

$

78,520

 

 

$

71,223

 

Common stock issued

 

 

1,963

 

 

 

1,343

 

 

 

6,829

 

Common stock repurchased

 

 

(5,539

)

 

 

(4,599

)

 

 

(4,195

)

Stock-based compensation expense

 

 

6,118

 

 

 

5,289

 

 

 

4,652

 

Other, net

 

 

17

 

 

 

(1

)

 

 

11

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

 

83,111

 

 

 

80,552

 

 

 

78,520

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Retained earnings

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

 

34,566

 

 

 

24,150

 

 

 

13,682

 

Net income

 

 

61,271

 

 

 

44,281

 

 

 

39,240

 

Common stock cash dividends

 

 

(16,871

)

 

 

(15,483

)

 

 

(14,103

)

Common stock repurchased

 

 

(21,879

)

 

 

(18,382

)

 

 

(15,346

)

Cumulative effect of accounting changes

 

 

(32

)

 

 

0

 

 

 

677

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

 

57,055

 

 

 

34,566

 

 

 

24,150

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Accumulated other comprehensive income (loss)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

 

3,186

 

 

 

(340

)

 

 

(2,187

)

Other comprehensive income (loss)

 

 

(1,374

)

 

 

3,526

 

 

 

1,914

 

Cumulative effect of accounting changes

 

 

10

 

 

 

0

 

 

 

(67

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

 

1,822

 

 

 

3,186

 

 

 

(340

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total stockholders’ equity

 

$

141,988

 

 

$

118,304

 

 

$

102,330

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash dividends declared per common share

 

$

2.24

 

 

$

2.04

 

 

$

1.84

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Refer to accompanying notes.

 

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PART II

Item 8

 

NOTES TO FINANCIAL STATEMENTS

NOTE 1 — ACCOUNTING POLICIES

Accounting Principles

Our consolidated financial statements and accompanying notes are prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”).

We have recast certain prior period amounts to conform to the current period presentation. The recast of these prior period amounts had no impact on our consolidated balance sheets, consolidated income statements, or consolidated cash flows statements.

Principles of Consolidation

The consolidated financial statements include the accounts of Microsoft Corporation and its subsidiaries. Intercompany transactions and balances have been eliminated.

Estimates and Assumptions

Preparing financial statements requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue, and expenses. Examples of estimates and assumptions include: for revenue recognition, determining the nature and timing of satisfaction of performance obligations, and determining the standalone selling price (“SSP”) of performance obligations, variable consideration, and other obligations such as product returns and refunds; loss contingencies; product warranties; the fair value of and/or potential impairment of goodwill and intangible assets for our reporting units; product life cycles; useful lives of our tangible and intangible assets; allowances for doubtful accounts; the market value of, and demand for, our inventory; stock-based compensation forfeiture rates; when technological feasibility is achieved for our products; the potential outcome of uncertain tax positions that have been recognized in our consolidated financial statements or tax returns; and determining the timing and amount of impairments for investments. Actual results and outcomes may differ from management’s estimates and assumptions due to risks and uncertainties, including uncertainty in the current economic environment due to COVID-19.

In July 2020, we completed an assessment of the useful lives of our server and network equipment and determined we should increase the estimated useful life of server equipment from three years to four years and increase the estimated useful life of network equipment from two years to four years. This change in accounting estimate was effective beginning fiscal year 2021. Based on the carrying amount of server and network equipment included in property and equipment, net as of June 30, 2020, the effect of this change in estimate for fiscal year 2021 was an increase in operating income of $2.7 billion and net income of $2.3 billion, or $0.30 per both basic and diluted share.

Foreign Currencies

Assets and liabilities recorded in foreign currencies are translated at the exchange rate on the balance sheet date. Revenue and expenses are translated at average rates of exchange prevailing during the year. Translation adjustments resulting from this process are recorded to other comprehensive income.

Revenue

Product Revenue and Service and Other Revenue

Product revenue includes sales from operating systems, cross-device productivity applications, server applications, business solution applications, desktop and server management tools, software development tools, video games, and hardware such as PCs, tablets, gaming and entertainment consoles, other intelligent devices, and related accessories.

Service and other revenue includes sales from cloud-based solutions that provide customers with software, services, platforms, and content such as Office 365, Azure, Dynamics 365, and Xbox; solution support; and consulting services. Service and other revenue also includes sales from online advertising and LinkedIn.

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PART II

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Revenue Recognition

Revenue is recognized upon transfer of control of promised products or services to customers in an amount that reflects the consideration we expect to receive in exchange for those products or services. We enter into contracts that can include various combinations of products and services, which are generally capable of being distinct and accounted for as separate performance obligations. Revenue is recognized net of allowances for returns and any taxes collected from customers, which are subsequently remitted to governmental authorities.

Nature of Products and Services

Licenses for on-premises software provide the customer with a right to use the software as it exists when made available to the customer. Customers may purchase perpetual licenses or subscribe to licenses, which provide customers with the same functionality and differ mainly in the duration over which the customer benefits from the software. Revenue from distinct on-premises licenses is recognized upfront at the point in time when the software is made available to the customer. In cases where we allocate revenue to software updates, primarily because the updates are provided at no additional charge, revenue is recognized as the updates are provided, which is generally ratably over the estimated life of the related device or license.

Certain volume licensing programs, including Enterprise Agreements, include on-premises licenses combined with Software Assurance (“SA”). SA conveys rights to new software and upgrades released over the contract period and provides support, tools, and training to help customers deploy and use products more efficiently. On-premises licenses are considered distinct performance obligations when sold with SA. Revenue allocated to SA is generally recognized ratably over the contract period as customers simultaneously consume and receive benefits, given that SA comprises distinct performance obligations that are satisfied over time.

Cloud services, which allow customers to use hosted software over the contract period without taking possession of the software, are provided on either a subscription or consumption basis. Revenue related to cloud services provided on a subscription basis is recognized ratably over the contract period. Revenue related to cloud services provided on a consumption basis, such as the amount of storage used in a period, is recognized based on the customer utilization of such resources. When cloud services require a significant level of integration and interdependency with software and the individual components are not considered distinct, all revenue is recognized over the period in which the cloud services are provided.

Revenue from search advertising is recognized when the advertisement appears in the search results or when the action necessary to earn the revenue has been completed. Revenue from consulting services is recognized as services are provided.

Our hardware is generally highly dependent on, and interrelated with, the underlying operating system and cannot function without the operating system. In these cases, the hardware and software license are accounted for as a single performance obligation and revenue is recognized at the point in time when ownership is transferred to resellers or directly to end customers through retail stores and online marketplaces.

Refer to Note 19 – Segment Information and Geographic Data for further information, including revenue by significant product and service offering.

Significant Judgments

Our contracts with customers often include promises to transfer multiple products and services to a customer. Determining whether products and services are considered distinct performance obligations that should be accounted for separately versus together may require significant judgment. When a cloud-based service includes both on-premises software licenses and cloud services, judgment is required to determine whether the software license is considered distinct and accounted for separately, or not distinct and accounted for together with the cloud service and recognized over time. Certain cloud services, primarily Office 365, depend on a significant level of integration, interdependency, and interrelation between the desktop applications and cloud services, and are accounted for together as one performance obligation. Revenue from Office 365 is recognized ratably over the period in which the cloud services are provided.

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PART II

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Judgment is required to determine the SSP for each distinct performance obligation. We use a single amount to estimate SSP for items that are not sold separately, including on-premises licenses sold with SA or software updates provided at no additional charge. We use a range of amounts to estimate SSP when we sell each of the products and services separately and need to determine whether there is a discount to be allocated based on the relative SSP of the various products and services.

In instances where SSP is not directly observable, such as when we do not sell the product or service separately, we determine the SSP using information that may include market conditions and other observable inputs. We typically have more than one SSP for individual products and services due to the stratification of those products and services by customers and circumstances. In these instances, we may use information such as the size of the customer and geographic region in determining the SSP.

Due to the various benefits from and the nature of our SA program, judgment is required to assess the pattern of delivery, including the exercise pattern of certain benefits across our portfolio of customers.

Our products are generally sold with a right of return, we may provide other credits or incentives, and in certain instances we estimate customer usage of our products and services, which are accounted for as variable consideration when determining the amount of revenue to recognize. Returns and credits are estimated at contract inception and updated at the end of each reporting period if additional information becomes available. Changes to our estimated variable consideration were not material for the periods presented.

Contract Balances and Other Receivables

Timing of revenue recognition may differ from the timing of invoicing to customers. We record a receivable when revenue is recognized prior to invoicing, or unearned revenue when revenue is recognized subsequent to invoicing. For multi-year agreements, we generally invoice customers annually at the beginning of each annual coverage period. We record a receivable related to revenue recognized for multi-year on-premises licenses as we have an unconditional right to invoice and receive payment in the future related to those licenses.

Unearned revenue comprises mainly unearned revenue related to volume licensing programs, which may include SA and cloud services. Unearned revenue is generally invoiced annually at the beginning of each contract period for multi-year agreements and recognized ratably over the coverage period. Unearned revenue also includes payments for consulting services to be performed in the future, LinkedIn subscriptions, Office 365 subscriptions, Xbox subscriptions, Windows 10 post-delivery support, Dynamics business solutions, and other offerings for which we have been paid in advance and earn the revenue when we transfer control of the product or service.

Refer to Note 13 – Unearned Revenue for further information, including unearned revenue by segment and changes in unearned revenue during the period.

Payment terms and conditions vary by contract type, although terms generally include a requirement of payment within 30 to 60 days. In instances where the timing of revenue recognition differs from the timing of invoicing, we have determined our contracts generally do not include a significant financing component. The primary purpose of our invoicing terms is to provide customers with simplified and predictable ways of purchasing our products and services, not to receive financing from our customers or to provide customers with financing. Examples include invoicing at the beginning of a subscription term with revenue recognized ratably over the contract period, and multi-year on-premises licenses that are invoiced annually with revenue recognized upfront.

As of June 30, 2021 and 2020, other receivables due from suppliers were $965 million and $442 million, respectively, and are included in accounts receivable, net in our consolidated balance sheets.

As of June 30, 2021 and 2020, long-term accounts receivable, net of allowance for doubtful accounts, was $3.4 billion and $2.7 billion, respectively, and is included in other long-term assets in our consolidated balance sheets.

The allowance for doubtful accounts reflects our best estimate of probable losses inherent in the accounts receivable balance. We determine the allowance based on known troubled accounts, historical experience, and other currently available evidence.

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PART II

Item 8

 

Activity in the allowance for doubtful accounts was as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

 

2021

 

 

 

2020

 

 

 

2019

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

$

816

 

 

$

434

 

 

$

397

 

Charged to costs and other

 

 

234

 

 

 

560

 

 

 

153

 

Write-offs

 

 

(252

)

 

 

(178

)

 

 

(116

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

$

798

 

 

$

816

 

 

$

434

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Allowance for doubtful accounts included in our consolidated balance sheets:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30,

 

 

2021

 

 

 

2020

 

 

 

2019

 

 

 

 

 

 

 

 

 

 

 

Accounts receivable, net of allowance for doubtful accounts

 

$

751

 

 

$

788

 

 

$

411

 

Other long-term assets

 

 

47

 

 

 

28

 

 

 

23

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

798

 

 

$

 816

 

 

$

 434

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

We record financing receivables when we offer certain of our customers the option to acquire our software products and services offerings through a financing program in a limited number of countries. As of June 30, 2021 and 2020, our financing receivables, net were $4.4 billion and $5.2 billion, respectively, for short-term and long-term financing receivables, which are included in other current assets and other long-term assets in our consolidated balance sheets. We record an allowance to cover expected losses based on troubled accounts, historical experience, and other currently available evidence.

Assets Recognized from Costs to Obtain a Contract with a Customer

We recognize an asset for the incremental costs of obtaining a contract with a customer if we expect the benefit of those costs to be longer than one year. We have determined that certain sales incentive programs meet the requirements to be capitalized. Total capitalized costs to obtain a contract were immaterial during the periods presented and are included in other current and long-term assets in our consolidated balance sheets.

We apply a practical expedient to expense costs as incurred for costs to obtain a contract with a customer when the amortization period would have been one year or less. These costs include our internal sales force compensation program and certain partner sales incentive programs as we have determined annual compensation is commensurate with annual sales activities.

Cost of Revenue

Cost of revenue includes: manufacturing and distribution costs for products sold and programs licensed; operating costs related to product support service centers and product distribution centers; costs incurred to include software on PCs sold by original equipment manufacturers (“OEM”), to drive traffic to our websites, and to acquire online advertising space; costs incurred to support and maintain online products and services, including datacenter costs and royalties; warranty costs; inventory valuation adjustments; costs associated with the delivery of consulting services; and the amortization of capitalized software development costs. Capitalized software development costs are amortized over the estimated lives of the products.

Product Warranty

We provide for the estimated costs of fulfilling our obligations under hardware and software warranties at the time the related revenue is recognized. For hardware warranties, we estimate the costs based on historical and projected product failure rates, historical and projected repair costs, and knowledge of specific product failures (if any). The specific hardware warranty terms and conditions vary depending upon the product sold and the country in which we do business, but generally include parts and labor over a period generally ranging from 90 days to three years. For software warranties, we estimate the costs to provide bug fixes, such as security patches, over the estimated life of the software. We regularly reevaluate our estimates to assess the adequacy of the recorded warranty liabilities and adjust the amounts as necessary.

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PART II

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Research and Development

Research and development expenses include payroll, employee benefits, stock-based compensation expense, and other headcount-related expenses associated with product development. Research and development expenses also include third-party development and programming costs, localization costs incurred to translate software for international markets, and the amortization of purchased software code and services content. Such costs related to software development are included in research and development expense until the point that technological feasibility is reached, which for our software products, is generally shortly before the products are released to production. Once technological feasibility is reached, such costs are capitalized and amortized to cost of revenue over the estimated lives of the products.

Sales and Marketing

Sales and marketing expenses include payroll, employee benefits, stock-based compensation expense, and other headcount-related expenses associated with sales and marketing personnel, and the costs of advertising, promotions, trade shows, seminars, and other programs. Advertising costs are expensed as incurred. Advertising expense was $1.5 billion, $1.6 billion, and $1.6 billion in fiscal years 2021, 2020, and 2019, respectively.

Stock-Based Compensation

Compensation cost for stock awards, which include restricted stock units (“RSUs”) and performance stock units (“PSUs”), is measured at the fair value on the grant date and recognized as expense, net of estimated forfeitures, over the related service or performance period. The fair value of stock awards is based on the quoted price of our common stock on the grant date less the present value of expected dividends not received during the vesting period. We measure the fair value of PSUs using a Monte Carlo valuation model. Compensation cost for RSUs is recognized using the straight-line method and for PSUs is recognized using the accelerated method.

Compensation expense for the employee stock purchase plan (“ESPP”) is measured as the discount the employee is entitled to upon purchase and is recognized in the period of purchase.

Income Taxes

Income tax expense includes U.S. and international income taxes, and interest and penalties on uncertain tax positions. Certain income and expenses are not reported in tax returns and financial statements in the same year. The tax effect of such temporary differences is reported as deferred income taxes. Deferred tax assets are reported net of a valuation allowance when it is more likely than not that a tax benefit will not be realized. All deferred income taxes are classified as long-term in our consolidated balance sheets.

Financial Instruments

Investments

We consider all highly liquid interest-earning investments with a maturity of three months or less at the date of purchase to be cash equivalents. The fair values of these investments approximate their carrying values. In general, investments with original maturities of greater than three months and remaining maturities of less than one year are classified as short-term investments. Investments with maturities beyond one year may be classified as short-term based on their highly liquid nature and because such marketable securities represent the investment of cash that is available for current operations.

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PART II

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Debt investments are classified as available-for-sale and realized gains and losses are recorded using the specific identification method. Changes in fair value, excluding credit losses and impairments, are recorded in other comprehensive income. Fair value is calculated based on publicly available market information or other estimates determined by management. If the cost of an investment exceeds its fair value, we evaluate, among other factors, general market conditions, credit quality of debt instrument issuers, and the extent to which the fair value is less than cost. To determine credit losses, we employ a systematic methodology that considers available quantitative and qualitative evidence. In addition, we consider specific adverse conditions related to the financial health of, and business outlook for, the investee. If we have plans to sell the security or it is more likely than not that we will be required to sell the security before recovery, then a decline in fair value below cost is recorded as an impairment charge in other income (expense), net and a new cost basis in the investment is established. If market, industry, and/or investee conditions deteriorate, we may incur future impairments.

Equity investments with readily determinable fair values are measured at fair value. Equity investments without readily determinable fair values are measured using the equity method or measured at cost with adjustments for observable changes in price or impairments (referred to as the measurement alternative). We perform a qualitative assessment on a periodic basis and recognize an impairment if there are sufficient indicators that the fair value of the investment is less than carrying value. Changes in value are recorded in other income (expense), net.

Derivatives

Derivative instruments are recognized as either assets or liabilities and measured at fair value. The accounting for changes in the fair value of a derivative depends on the intended use of the derivative and the resulting designation.

For derivative instruments designated as fair value hedges, gains and losses are recognized in other income (expense), net with offsetting gains and losses on the hedged items. Gains and losses representing hedge components excluded from the assessment of effectiveness are recognized in other income (expense), net.

For derivative instruments designated as cash flow hedges, gains and losses are initially reported as a component of other comprehensive income and subsequently recognized in earnings with the corresponding hedged item. Gains and losses representing hedge components excluded from the assessment of effectiveness are recognized in earnings.

For derivative instruments that are not designated as hedges, gains and losses from changes in fair values are primarily recognized in other income (expense), net.

Fair Value Measurements

We account for certain assets and liabilities at fair value. The hierarchy below lists three levels of fair value based on the extent to which inputs used in measuring fair value are observable in the market. We categorize each of our fair value measurements in one of these three levels based on the lowest level input that is significant to the fair value measurement in its entirety. These levels are:

 

Level 1 – inputs are based upon unadjusted quoted prices for identical instruments in active markets. Our Level 1 investments include U.S. government securities, common and preferred stock, and mutual funds. Our Level 1 derivative assets and liabilities include those actively traded on exchanges.

 

Level 2 – inputs are based upon quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, and model-based valuation techniques (e.g. the Black-Scholes model) for which all significant inputs are observable in the market or can be corroborated by observable market data for substantially the full term of the assets or liabilities. Where applicable, these models project future cash flows and discount the future amounts to a present value using market-based observable inputs including interest rate curves, credit spreads, foreign exchange rates, and forward and spot prices for currencies. Our Level 2 investments include commercial paper, certificates of deposit, U.S. agency securities, foreign government bonds, mortgage- and asset-backed securities, corporate notes and bonds, and municipal securities. Our Level 2 derivative assets and liabilities primarily include certain over-the-counter option and swap contracts.

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PART II

Item 8

 

 

Level 3 – inputs are generally unobservable and typically reflect management’s estimates of assumptions that market participants would use in pricing the asset or liability. The fair values are therefore determined using model-based techniques, including option pricing models and discounted cash flow models. Our Level 3 assets and liabilities include investments in corporate notes and bonds, municipal securities, and goodwill and intangible assets, when they are recorded at fair value due to an impairment charge. Unobservable inputs used in the models are significant to the fair values of the assets and liabilities.

We measure equity investments without readily determinable fair values on a nonrecurring basis. The fair values of these investments are determined based on valuation techniques using the best information available, and may include quoted market prices, market comparables, and discounted cash flow projections.

Our other current financial assets and current financial liabilities have fair values that approximate their carrying values.

Inventories

Inventories are stated at average cost, subject to the lower of cost or net realizable value. Cost includes materials, labor, and manufacturing overhead related to the purchase and production of inventories. Net realizable value is the estimated selling price less estimated costs of completion, disposal, and transportation. We regularly review inventory quantities on hand, future purchase commitments with our suppliers, and the estimated utility of our inventory. If our review indicates a reduction in utility below carrying value, we reduce our inventory to a new cost basis through a charge to cost of revenue.

Property and Equipment

Property and equipment is stated at cost less accumulated depreciation, and depreciated using the straight-line method over the shorter of the estimated useful life of the asset or the lease term. The estimated useful lives of our property and equipment are generally as follows: computer software developed or acquired for internal use, three to seven years; computer equipment, two to four years; buildings and improvements, five to 15 years; leasehold improvements, three to 20 years; and furniture and equipment, one to 10 years. Land is not depreciated.

Leases

We determine if an arrangement is a lease at inception. Operating leases are included in operating lease right-of-use (“ROU”) assets, other current liabilities, and operating lease liabilities in our consolidated balance sheets. Finance leases are included in property and equipment, other current liabilities, and other long-term liabilities in our consolidated balance sheets.

ROU assets represent our right to use an underlying asset for the lease term and lease liabilities represent our obligation to make lease payments arising from the lease. Operating lease ROU assets and liabilities are recognized at commencement date based on the present value of lease payments over the lease term. As most of our leases do not provide an implicit rate, we generally use our incremental borrowing rate based on the estimated rate of interest for collateralized borrowing over a similar term of the lease payments at commencement date. The operating lease ROU asset also includes any lease payments made and excludes lease incentives. Our lease terms may include options to extend or terminate the lease when it is reasonably certain that we will exercise that option. Lease expense for lease payments is recognized on a straight-line basis over the lease term.

We have lease agreements with lease and non-lease components, which are generally accounted for separately. For certain equipment leases, such as vehicles, we account for the lease and non-lease components as a single lease component. Additionally, for certain equipment leases, we apply a portfolio approach to effectively account for the operating lease ROU assets and liabilities.

Goodwill

Goodwill is tested for impairment at the reporting unit level (operating segment or one level below an operating segment) on an annual basis (May 1 for us) and between annual tests if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying value.

68


PART II

Item 8

 

Intangible Assets

Our intangible assets are subject to amortization and are amortized using the straight-line method over their estimated period of benefit, ranging from one to 20 years. We evaluate the recoverability of intangible assets periodically by taking into account events or circumstances that may warrant revised estimates of useful lives or that indicate the asset may be impaired.

Recent Accounting Guidance

Recently Adopted Accounting Guidance

Financial Instruments – Credit Losses

In June 2016, the FASB issued a new standard to replace the incurred loss impairment methodology under current GAAP with a methodology that reflects expected credit losses and requires consideration of a broader range of reasonable and supportable information to inform credit loss estimates. We adopted the standard effective July 1, 2020. We use a forward-looking expected credit loss model for accounts receivable, loans, and other financial instruments. Credit losses relating to available-for-sale debt securities are recorded through an allowance for credit losses rather than as a reduction in the amortized cost basis of the securities. We applied a modified retrospective approach through a cumulative-effect adjustment to retained earnings as of the effective date to align our credit loss methodology with the new standard. The adoption of the standard did not have a material impact on our consolidated financial statements.

Recent Accounting Guidance Not Yet Adopted

Accounting for Income Taxes

In December 2019, the FASB issued a new standard to simplify the accounting for income taxes. The guidance eliminates certain exceptions related to the approach for intraperiod tax allocation, the methodology for calculating income taxes in an interim period, and the recognition of deferred tax liabilities for outside basis differences related to changes in ownership of equity method investments and foreign subsidiaries. The guidance also simplifies aspects of accounting for franchise taxes and enacted changes in tax laws or rates, and clarifies the accounting for transactions that result in a step-up in the tax basis of goodwill. The standard will be effective for us beginning July 1, 2021. We have completed our assessment and concluded that adoption of the new standard will not have a material impact on our consolidated financial statements.

NOTE 2 — EARNINGS PER SHARE

Basic earnings per share (“EPS”) is computed based on the weighted average number of shares of common stock outstanding during the period. Diluted EPS is computed based on the weighted average number of shares of common stock plus the effect of dilutive potential common shares outstanding during the period using the treasury stock method. Dilutive potential common shares include outstanding stock options and stock awards.

The components of basic and diluted EPS were as follows:

 

(In millions, except earnings per share)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2021

 

 

2020

 

 

2019

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income available for common shareholders (A)

 

$

61,271

 

 

$

44,281

 

 

$

39,240

 

Weighted average outstanding shares of common stock (B)

 

 

7,547

 

 

 

7,610

 

 

 

7,673

 

Dilutive effect of stock-based awards

 

 

61

 

 

 

73

 

 

 

80

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Common stock and common stock equivalents (C)

 

 

7,608

 

 

 

7,683

 

 

 

7,753

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Earnings Per Share

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic (A/B)

 

$

8.12

 

 

$

5.82

 

 

$

5.11

 

Diluted (A/C)

 

$

8.05

 

 

$

5.76

 

 

$

5.06

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Anti-dilutive stock-based awards excluded from the calculations of diluted EPS were immaterial during the periods presented.

69


PART II

Item 8

 

NOTE 3 — OTHER INCOME (EXPENSE), NET

The components of other income (expense), net were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2021

 

 

2020

 

 

2019

 

 

 

 

 

Interest and dividends income

 

$

2,131

 

 

$

2,680

 

 

$

2,762

 

Interest expense

 

 

(2,346

)

 

 

(2,591

)

 

 

(2,686

)

Net recognized gains on investments

 

 

1,232

 

 

 

32

 

 

 

648

 

Net gains on derivatives

 

 

17

 

 

 

187

 

 

 

144

 

Net gains (losses) on foreign currency remeasurements

 

 

54

 

 

 

(191

)

 

 

(82

)

Other, net

 

 

98

 

 

 

(40

)

 

 

(57

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

1,186

 

 

$

77

 

 

$

729

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net Recognized Gains (Losses) on Investments

Net recognized gains (losses) on debt investments were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2021

 

 

2020

 

 

2019

 

 

 

 

 

Realized gains from sales of available-for-sale securities

 

$

105

 

 

$

50

 

 

$

12

 

Realized losses from sales of available-for-sale securities

 

 

(40

)

 

 

(37

)

 

 

(93

)

Impairments and allowance for credit losses

 

 

(2

)

 

 

(17

)

 

 

(16

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

63

 

 

$

(4

)

 

$

(97

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net recognized gains (losses) on equity investments were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2021

 

 

2020

 

 

2019

 

 

 

 

 

Net realized gains on investments sold

 

$

123

 

 

$

83

 

 

$

276

 

Net unrealized gains on investments still held

 

 

1,057

 

 

 

69

 

 

 

479

 

Impairments of investments

 

 

(11

)

 

 

(116

)

 

 

(10

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

1,169

 

 

$

36

 

 

$

745

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

70


PART II

Item 8

 

NOTE 4 — INVESTMENTS

Investment Components

The components of investments were as follows:

 

(In millions)

 

Fair Value

Level

 

 

Adjusted

Cost Basis

 

 

Unrealized

Gains

 

 

Unrealized

Losses

 

 

Recorded

Basis

 

 

Cash

and Cash

Equivalents

 

Short-term

Investments

 

 

Equity

Investments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2021

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Changes in Fair Value Recorded in Other Comprehensive Income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial paper

 

 

Level 2

 

 

$

4,316

 

 

$

0

 

 

$

0

 

 

$

4,316

 

 

$

1,331

 

 

$

2,985

 

 

$

0

 

Certificates of deposit

 

 

Level 2

 

 

 

3,615

 

 

 

0

 

 

 

0

 

 

 

3,615

 

 

 

2,920

 

 

 

695

 

 

 

0

 

U.S. government securities

 

 

Level 1

 

 

 

90,664

 

 

 

3,832

 

 

 

(111

)

 

 

94,385

 

 

 

1,500

 

 

 

92,885

 

 

 

0

 

U.S. agency securities

 

 

Level 2

 

 

 

807

 

 

 

2

 

 

 

0

 

 

 

809

 

 

 

0

 

 

 

809

 

 

 

0

 

Foreign government bonds

 

 

Level 2

 

 

 

6,213

 

 

 

9

 

 

 

(2

)

 

 

6,220

 

 

 

225

 

 

 

5,995

 

 

 

0

 

Mortgage- and asset-backed securities

 

 

Level 2

 

 

 

3,442

 

 

 

22

 

 

 

(6

)

 

 

3,458

 

 

 

0

 

 

 

3,458

 

 

 

0

 

Corporate notes and bonds

 

 

Level 2

 

 

 

8,443

 

 

 

249

 

 

 

(9

)

 

 

8,683

 

 

 

0

 

 

 

8,683

 

 

 

0

 

Corporate notes and bonds

 

 

Level 3

 

 

 

63

 

 

 

0

 

 

 

0

 

 

 

63

 

 

 

0

 

 

 

63

 

 

 

0

 

Municipal securities

 

 

Level 2

 

 

 

308

 

 

 

63

 

 

 

0

 

 

 

371

 

 

 

0

 

 

 

371

 

 

 

0

 

Municipal securities

 

 

Level 3

 

 

 

95

 

 

 

0

 

 

 

(7

)

 

 

88

 

 

 

0

 

 

 

88

 

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total debt investments

 

 

 

 

 

$

117,966

 

 

$

4,177

 

 

$

(135

)

 

$

122,008

 

 

$

5,976

 

 

$

116,032

 

 

$

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Changes in Fair Value Recorded in Net Income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Equity investments

 

 

Level 1

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

1,582

 

 

$

976

 

 

$

0

 

 

$

606

 

Equity investments

 

 

Other

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

5,378

 

 

 

0

 

 

 

0

 

 

 

5,378

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total equity investments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

6,960

 

 

$

976

 

 

$

0

 

 

$

5,984

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

7,272

 

 

$

7,272

 

 

$

0

 

 

$

0

 

Derivatives, net (a)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

78

 

 

 

0

 

 

 

78

 

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

136,318

 

 

$

14,224

 

 

$

116,110

 

 

$

5,984

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

71


PART II

Item 8

 

 

(In millions)

 

Fair Value

Level

 

 

Adjusted

Cost Basis

 

 

Unrealized

Gains

 

 

Unrealized

Losses

 

 

Recorded

Basis

 

 

Cash

and Cash

Equivalents

 

Short-term

Investments

 

 

Equity

Investments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2020

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Changes in Fair Value Recorded in Other Comprehensive Income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial paper

 

 

Level 2

 

 

$

4,687

 

 

$

1

 

 

$

0

 

 

$

4,688

 

 

$

1,618

 

 

$

3,070

 

 

$

0

 

Certificates of deposit

 

 

Level 2

 

 

 

2,898

 

 

 

0

 

 

 

0

 

 

 

2,898

 

 

 

1,646

 

 

 

1,252

 

 

 

0

 

U.S. government securities

 

 

Level 1

 

 

 

92,067

 

 

 

6,495

 

 

 

(1

)

 

 

98,561

 

 

 

3,168

 

 

 

95,393

 

 

 

0

 

U.S. agency securities

 

 

Level 2

 

 

 

2,439

 

 

 

2

 

 

 

0

 

 

 

2,441

 

 

 

449

 

 

 

1,992

 

 

 

0

 

Foreign government bonds

 

 

Level 2

 

 

 

6,982

 

 

 

6

 

 

 

(3

)

 

 

6,985

 

 

 

1

 

 

 

6,984

 

 

 

0

 

Mortgage- and asset-backed securities

 

 

Level 2

 

 

 

4,865

 

 

 

41

 

 

 

(6

)

 

 

4,900

 

 

 

0

 

 

 

4,900

 

 

 

0

 

Corporate notes and bonds

 

 

Level 2

 

 

 

8,500

 

 

 

327

 

 

 

(17

)

 

 

8,810

 

 

 

0

 

 

 

8,810

 

 

 

0

 

Corporate notes and bonds

 

 

Level 3

 

 

 

58

 

 

 

0

 

 

 

0

 

 

 

58

 

 

 

0

 

 

 

58

 

 

 

0

 

Municipal securities

 

 

Level 2

 

 

 

313

 

 

 

57

 

 

 

(4

)

 

 

366

 

 

 

0

 

 

 

366

 

 

 

0

 

Municipal securities

 

 

Level 3

 

 

 

91

 

 

 

0

 

 

 

0

 

 

 

91

 

 

 

0

 

 

 

91

 

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total debt investments

 

 

 

 

 

$

122,900

 

 

$

6,929

 

 

$

(31

)

 

$

129,798

 

 

$

6,882

 

 

$

122,916

 

 

$

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Changes in Fair Value Recorded in Net Income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Equity investments

 

 

Level 1

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

1,198

 

 

$

784

 

 

$

0

 

 

$

414

 

Equity investments

 

 

Other

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2,551

 

 

 

0

 

 

 

0

 

 

 

2,551

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total equity investments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

3,749

 

 

$

784

 

 

$

0

 

 

$

2,965

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

5,910

 

 

$

5,910

 

 

$

0

 

 

$

0

 

Derivatives, net (a)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

35

 

 

 

0

 

 

 

35

 

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

139,492

 

 

$

13,576

 

 

$

122,951

 

 

$

2,965

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(a)

Refer to Note 5 – Derivatives for further information on the fair value of our derivative instruments.

 

Equity investments presented as “Other” in the tables above include investments without readily determinable fair values measured using the equity method or measured at cost with adjustments for observable changes in price or impairments, and investments measured at fair value using net asset value as a practical expedient which are not categorized in the fair value hierarchy. As of June 30, 2021 and 2020, equity investments without readily determinable fair values measured at cost with adjustments for observable changes in price or impairments were $3.3 billion and $1.4 billion, respectively.

Unrealized Losses on Debt Investments

Debt investments with continuous unrealized losses for less than 12 months and 12 months or greater and their related fair values were as follows:

 

 

 

Less than 12 Months

 

 

12 Months or Greater

 

 

 

 

 

Total
Unrealized
Losses

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(In millions)

 

Fair Value

 

 

Unrealized
Losses

 

 

Fair Value

 

 

Unrealized
Losses

 

 

Total
Fair Value

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2021

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. government and agency securities

 

$

5,294

 

 

$

(111

)

 

$

0

 

 

$

0

 

 

$

5,294

 

 

$

(111

)

Foreign government bonds

 

 

3,148

 

 

 

(1

)

 

 

5

 

 

 

(1

)

 

 

3,153

 

 

 

(2

)

Mortgage- and asset-backed securities

 

 

1,211

 

 

 

(5

)

 

 

87

 

 

 

(1

)

 

 

1,298

 

 

 

(6

)

Corporate notes and bonds

 

 

1,678

 

 

 

(8

)

 

 

34

 

 

 

(1

)

 

 

1,712

 

 

 

(9

)

Municipal securities

 

 

58

 

 

 

(7

)

 

 

1

 

 

 

0

 

 

 

59

 

 

 

(7

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

11,389

 

 

$

(132

)

 

$

127

 

 

$

(3

)

 

$

11,516

 

 

$

(135

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

72


PART II

Item 8

 

 

 

 

Less than 12 Months

 

 

12 Months or Greater

 

 

 

 

 

 

Total

Unrealized

Losses

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(In millions)

 

Fair Value

 

 

Unrealized

Losses

 

 

Fair Value

 

 

Unrealized

Losses

 

 

Total

Fair Value

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2020

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. government and agency securities

 

$

2,323

 

 

$

(1

)

 

$

0

 

 

$

0

 

 

$

2,323

 

 

$

(1

)

Foreign government bonds

 

 

500

 

 

 

(3

)

 

 

0

 

 

 

0

 

 

 

500

 

 

 

(3

)

Mortgage- and asset-backed securities

 

 

1,014

 

 

 

(6

)

 

 

0

 

 

 

0

 

 

 

1,014

 

 

 

(6

)

Corporate notes and bonds

 

 

649

 

 

 

(17

)

 

 

0

 

 

 

0

 

 

 

649

 

 

 

(17

)

Municipal securities

 

 

66

 

 

 

(4

)

 

 

0

 

 

 

0

 

 

 

66

 

 

 

(4

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

4,552

 

 

$

(31

)

 

$

0

 

 

$

0

 

 

$

4,552

 

 

$

(31

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Unrealized losses from fixed-income securities are primarily attributable to changes in interest rates. Management does not believe any remaining unrealized losses represent impairments based on our evaluation of available evidence.

Debt Investment Maturities

 

(In millions)

 

Adjusted

Cost Basis

 

 

Estimated

Fair Value

 

 

 

 

 

 

 

June 30, 2021

 

 

 

 

 

 

 

 

 

 

 

Due in one year or less

 

$

22,612

 

 

$

22,676

 

Due after one year through five years

 

 

67,541

 

 

 

70,315

 

Due after five years through 10 years

 

 

25,212

 

 

 

26,327

 

Due after 10 years

 

 

2,601

 

 

 

2,690

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

117,966

 

 

$

122,008

 

 

 

 

 

 

 

 

 

 

 

NOTE 5 — DERIVATIVES

We use derivative instruments to manage risks related to foreign currencies, interest rates, equity prices, and credit; to enhance investment returns; and to facilitate portfolio diversification. Our objectives for holding derivatives include reducing, eliminating, and efficiently managing the economic impact of these exposures as effectively as possible. Our derivative programs include strategies that both qualify and do not qualify for hedge accounting treatment.

Foreign Currencies

Certain forecasted transactions, assets, and liabilities are exposed to foreign currency risk. We monitor our foreign currency exposures daily to maximize the economic effectiveness of our foreign currency hedge positions.

Foreign currency risks related to certain non-U.S. dollar-denominated investments are hedged using foreign exchange forward contracts that are designated as fair value hedging instruments. Foreign currency risks related to certain Euro-denominated debt are hedged using foreign exchange forward contracts that are designated as cash flow hedging instruments.

In the past, option and forward contracts were used to hedge a portion of forecasted international revenue and were designated as cash flow hedging instruments. Principal currencies hedged included the Euro, Japanese yen, British pound, Canadian dollar, and Australian dollar.

Certain options and forwards not designated as hedging instruments are also used to manage the variability in foreign exchange rates on certain balance sheet amounts and to manage other foreign currency exposures.

Interest Rate

Interest rate risks related to certain fixed-rate debt are hedged using interest rate swaps that are designated as fair value hedging instruments to effectively convert the fixed interest rates to floating interest rates.

73


PART II

Item 8

 

Securities held in our fixed-income portfolio are subject to different interest rate risks based on their maturities. We manage the average maturity of our fixed-income portfolio to achieve economic returns that correlate to certain broad-based fixed-income indices using exchange-traded option and futures contracts and over-the-counter swap and option contracts. These contracts are not designated as hedging instruments and are included in “Other contracts” in the tables below.

Equity

Securities held in our equity investments portfolio are subject to market price risk. At times, we may hold options, futures, and swap contracts. These contracts are not designated as hedging instruments and are included in “Other contracts” in the tables below.

Credit

Our fixed-income portfolio is diversified and consists primarily of investment-grade securities. We use credit default swap contracts to manage credit exposures relative to broad-based indices and to facilitate portfolio diversification. These contracts are not designated as hedging instruments and are included in “Other contracts” in the tables below.

Credit-Risk-Related Contingent Features

Certain of our counterparty agreements for derivative instruments contain provisions that require our issued and outstanding long-term unsecured debt to maintain an investment grade credit rating and require us to maintain minimum liquidity of $1.0 billion. To the extent we fail to meet these requirements, we will be required to post collateral, similar to the standard convention related to over-the-counter derivatives. As of June 30, 2021, our long-term unsecured debt rating was AAA, and cash investments were in excess of $1.0 billion. As a result, no collateral was required to be posted.

The following table presents the notional amounts of our outstanding derivative instruments measured in U.S. dollar equivalents:

 

(In millions)

 

June 30,

2021

 

 

June 30,

2020

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Designated as Hedging Instruments

 

 

 

 

 

 

 

 

 

 

 

Foreign exchange contracts purchased

 

$

635

 

 

$

635

 

Foreign exchange contracts sold

 

 

6,081

 

 

 

6,754

 

Interest rate contracts purchased

 

 

1,247

 

 

 

1,295

 

 

 

 

Not Designated as Hedging Instruments

 

 

 

 

 

 

 

 

 

 

 

Foreign exchange contracts purchased

 

 

14,223

 

 

 

11,896

 

Foreign exchange contracts sold

 

 

23,391

 

 

 

15,595

 

Other contracts purchased

 

 

2,456

 

 

 

1,844

 

Other contracts sold

 

 

763

 

 

 

757

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

74


PART II

Item 8

 

Fair Values of Derivative Instruments

The following table presents our derivative instruments:

 

 

 

Derivative

 

Derivative

 

Derivative

 

Derivative

 

(In millions)

 

Assets

 

Liabilities

 

Assets

 

Liabilities

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30,

2021

 

June 30,

2020

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Designated as Hedging Instruments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Foreign exchange contracts

 

$

76

 

 

$

(8

)

 

$

44

 

 

$

(54

)

Interest rate contracts

 

 

40

 

 

 

0

 

 

 

93

 

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Not Designated as Hedging Instruments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Foreign exchange contracts

 

 

227

 

 

 

(291

)

 

 

245

 

 

 

(334

)

Other contracts

 

 

56

 

 

 

(36

)

 

 

18

 

 

 

(11

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross amounts of derivatives

 

 

399

 

 

 

(335

)

 

 

400

 

 

 

(399

)

Gross amounts of derivatives offset in the balance sheet

 

 

(141

)

 

 

142

 

 

 

(154

)

 

 

158

 

Cash collateral received

 

 

 0

 

 

 

(42

)

 

 

0

 

 

 

(154

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net amounts of derivatives

 

$

258

 

 

$

(235

)

 

$

246

 

 

$

(395

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Reported as

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Short-term investments

 

$

78

 

 

$

0

 

 

$

35

 

 

$

0

 

Other current assets

 

 

137

 

 

 

0

 

 

 

199

 

 

 

0

 

Other long-term assets

 

 

43

 

 

 

0

 

 

 

12

 

 

 

0

 

Other current liabilities

 

 

0

 

 

 

(182

)

 

 

0

 

 

 

(334

)

Other long-term liabilities

 

 

0

 

 

 

(53

)

 

 

0

 

 

 

(61

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

258

 

 

$

(235

)

 

$

246

 

 

$

(395

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross derivative assets and liabilities subject to legally enforceable master netting agreements for which we have elected to offset were $395 million and $335 million, respectively, as of June 30, 2021, and $399 million and $399 million, respectively, as of June 30, 2020.

The following table presents the fair value of our derivatives instruments on a gross basis:

 

(In millions)

 

Level 1

 

 

 

Level 2

 

 

Level 3

 

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2021

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Derivative assets

 

$

0

 

 

$

396

 

 

$

3

 

 

$

399

 

Derivative liabilities

 

 

0

 

 

 

(335

)

 

 

0

 

 

 

(335

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2020

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Derivative assets

 

 

1

 

 

 

398

 

 

 

1

 

 

 

400

 

Derivative liabilities

 

 

0

 

 

 

(399

)

 

 

0

 

 

 

(399

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

75


PART II

Item 8

 

Gains (losses) on derivative instruments recognized in our consolidated income statements were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2021

 

2020

2019

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Revenue

 

 

Other
Income

(Expense),
Net

 

 

Revenue

 

 

Other
Income

(Expense),
Net

 

 

Revenue

 

 

Other

Income

(Expense),

Net

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Designated as Fair Value Hedging Instruments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Foreign exchange contracts

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Derivatives

 

$

0

 

 

$

193

 

 

$

0

 

 

$

1

 

 

$

0

 

 

$

(130

)

Hedged items

 

 

0

 

 

 

(188

)

 

 

0

 

 

 

3

 

 

 

0

 

 

 

130

 

Excluded from effectiveness assessment

 

 

0

 

 

 

30

 

 

 

0

 

 

 

139

 

 

 

0

 

 

 

168

 

Interest rate contracts

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Derivatives

 

 

0

 

 

 

(37

)

 

 

0

 

 

 

93

 

 

 

0

 

 

 

0

 

Hedged items

 

 

0

 

 

 

53

 

 

 

0

 

 

 

(93

)

 

 

0

 

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Designated as Cash Flow Hedging Instruments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Foreign exchange contracts

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Amount reclassified from accumulated other comprehensive income

 

 

0

 

 

 

17

 

 

 

0

 

 

 

0

 

 

 

341

 

 

 

0

 

Excluded from effectiveness assessment

 

 

0

 

 

 

0

 

 

 

0

 

 

 

0

 

 

 

(64

)

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Not Designated as Hedging Instruments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Foreign exchange contracts

 

 

0

 

 

 

27

 

 

 

0

 

 

 

(123

)

 

 

0

 

 

 

(97

)

Other contracts

 

 

0

 

 

 

9

 

 

 

0

 

 

 

50

 

 

 

0

 

 

 

38

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gains (losses), net of tax, on derivative instruments recognized in our consolidated comprehensive income statements were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2021

 

 

2020

 

 

2019

 

 

 

 

 

Designated as Cash Flow Hedging Instruments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Foreign exchange contracts

 

 

 

 

 

 

 

 

 

 

 

 

Included in effectiveness assessment

 

$

34

 

 

$

(38

)

 

$

159

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

NOTE 6 INVENTORIES

The components of inventories were as follows:

 

(In millions)

 

 

 

 

 

 

 

June 30,

 

2021

 

 

2020

 

 

 

 

Raw materials

 

$

1,190

 

 

$

700

 

Work in process

 

 

79

 

 

 

83

 

Finished goods

 

 

1,367

 

 

 

1,112

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

2,636

 

 

$

1,895

 

 

 

 

 

 

 

 

 

 

 

76


PART II

Item 8

 

NOTE 7 — PROPERTY AND EQUIPMENT

The components of property and equipment were as follows:

 

(In millions)

 

 

 

 

 

 

 

June 30,

 

2021

 

 

2020

 

 

 

 

Land

 

$

3,660

 

 

$

1,823

 

Buildings and improvements

 

 

43,928

 

 

 

33,995

 

Leasehold improvements

 

 

6,884

 

 

 

5,487

 

Computer equipment and software

 

 

51,250

 

 

 

41,261

 

Furniture and equipment

 

 

5,344

 

 

 

4,782

 

 

 

 

 

 

 

 

 

 

 

 

 

Total, at cost

 

 

111,066

 

 

 

87,348

 

Accumulated depreciation

 

 

(51,351

)

 

 

(43,197

)

 

 

 

 

 

 

 

 

 

 

 

 

Total, net

 

$

 59,715

 

 

$

44,151

 

 

 

 

 

 

 

 

 

 

 

During fiscal years 2021, 2020, and 2019, depreciation expense was $9.3 billion, $10.7 billion, and $9.7 billion, respectively. Depreciation expense declined in fiscal year 2021 due to the change in estimated useful lives of our server and network equipment. We have committed $9.5 billion for the construction of new buildings, building improvements, and leasehold improvements as of June 30, 2021.

During fiscal year 2020, we recorded an impairment charge of $186 million to Property and Equipment, primarily to leasehold improvements, due to the closing of our Microsoft Store physical locations.

NOTE 8 — BUSINESS COMBINATIONS

ZeniMax Media Inc.

On March 9, 2021, we completed our acquisition of ZeniMax Media Inc. (“ZeniMax”), the parent company of Bethesda Softworks LLC (“Bethesda”), for a total purchase price of $8.1 billion, consisting primarily of cash. The purchase price included $768 million of cash and cash equivalents acquired. Bethesda is one of the largest, privately held game developers and publishers in the world, and brings a broad portfolio of games, technology, and talent to Xbox. The financial results of ZeniMax have been included in our consolidated financial statements since the date of the acquisition. ZeniMax is reported as part of our More Personal Computing segment.

The purchase price allocation as of the date of acquisition was based on a preliminary valuation and is subject to revision as more detailed analyses are completed and additional information about the fair value of assets acquired and liabilities assumed becomes available.

The major classes of assets and liabilities to which we have preliminarily allocated the purchase price were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

768

 

Goodwill

 

 

5,469

 

Intangible assets

 

 

1,968

 

Other assets

 

 

139

 

Other liabilities

 

 

(223

)

 

 

 

 

 

 

 

 

 

 

Total

 

$

8,121

 

 

 

 

 

 

 

Goodwill was assigned to our More Personal Computing segment. The goodwill was primarily attributed to increased synergies that are expected to be achieved from the integration of ZeniMax. None of the goodwill is expected to be deductible for income tax purposes.

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Item 8

 

Following are details of the purchase price allocated to the intangible assets acquired:

 

(In millions)

 

Amount

 

 

Weighted

Average Life

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Technology-based

 

$

1,341

 

 

 

 4 years

 

Marketing-related

 

 

627

 

 

 

11 years

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

1,968

 

 

 

6 years

 

 

 

 

 

 

 

 

 

 

GitHub, Inc.

On October 25, 2018, we acquired GitHub, Inc. (“GitHub”), a software development platform, in a $7.5 billion stock transaction (inclusive of total cash payments of $1.3 billion in respect of vested GitHub equity awards and an indemnity escrow). The acquisition is expected to empower developers to achieve more at every stage of the development lifecycle, accelerate enterprise use of GitHub, and bring Microsoft’s developer tools and services to new audiences. The financial results of GitHub have been included in our consolidated financial statements since the date of the acquisition. GitHub is reported as part of our Intelligent Cloud segment.

The allocation of the purchase price to goodwill was completed as of June 30, 2019. The major classes of assets and liabilities to which we allocated the purchase price were as follows: 

 

(In millions)

 

 

 

 

 

 

 

 

 

Cash, cash equivalents, and short-term investments

 

$

234

 

Goodwill

 

 

5,497

 

Intangible assets

 

 

1,267

 

Other assets

 

 

143

 

Other liabilities

 

 

(217

)

 

 

 

 

 

 

 

 

 

 

Total

 

$

 6,924

 

 

 

 

 

 

 

The goodwill recognized in connection with the acquisition is primarily attributable to anticipated synergies from future growth and is not expected to be deductible for tax purposes. We assigned the goodwill to our Intelligent Cloud segment.

Following are the details of the purchase price allocated to the intangible assets acquired:

 

(In millions)

 

Amount

 

 

Weighted

Average Life

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Customer-related

 

$

 648

 

 

 

8 years

 

Technology-based

 

 

447

 

 

 

5 years

 

Marketing-related

 

 

170

 

 

 

10 years

 

Contract-based

 

 

2

 

 

 

2 years

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

1,267

 

 

 

7 years

 

 

 

 

 

 

 

 

 

 

Transactions recognized separately from the purchase price allocation were approximately $600 million, primarily related to equity awards recognized as expense over the related service period.

Nuance Communications, Inc.

On April 11, 2021, we entered into a definitive agreement to acquire Nuance Communications, Inc. (“Nuance”) for $56.00 per share in an all-cash transaction valued at $19.7 billion, inclusive of Nuance’s net debt. Nuance is a cloud and artificial intelligence (“AI”) software provider with healthcare and enterprise AI experience, and the acquisition will build on our industry-specific cloud offerings. The acquisition has been approved by Nuance’s shareholders, and we expect it to close by the end of calendar year 2021, subject to the satisfaction of certain regulatory approvals and other customary closing conditions.

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Item 8

 

NOTE 9 — GOODWILL

Changes in the carrying amount of goodwill were as follows:

 

(In millions)

 

 

June 30,

2019

 

 

 

Acquisitions

 

 

 

Other

 

 

 

June 30,

2020

 

 

 

Acquisitions

 

 

 

Other

 

 

 

June 30,
2021

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Productivity and Business Processes

 

$

24,277

 

 

$

7

 

 

$

(94

)

 

$

24,190

 

 

$

0

 

 

$

127

 

 

$

24,317

 

Intelligent Cloud

 

 

11,351

 

 

 

1,351

 

 

 

(5

)

 

 

12,697

 

 

 

505

 

 

 

54

 

 

 

13,256

 

More Personal Computing

 

 

6,398

 

 

 

96

 

 

 

(30

)

 

 

6,464

 

 

 

5,556

(a)

 

 

118

(a)

 

 

12,138

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

 42,026

 

 

$

1,454

 

 

$

 (129

)

 

$

43,351

 

 

$

6,061

 

 

$

299  

 

 

$

49,711

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(a)

Includes goodwill of $5.5 billion related to ZeniMax. See Note 8 – Business Combinations for further information.

The measurement periods for the valuation of assets acquired and liabilities assumed end as soon as information on the facts and circumstances that existed as of the acquisition dates becomes available, but do not exceed 12 months. Adjustments in purchase price allocations may require a change in the amounts allocated to goodwill during the periods in which the adjustments are determined.

Any change in the goodwill amounts resulting from foreign currency translations and purchase accounting adjustments are presented as “Other” in the table above. Also included in “Other” are business dispositions and transfers between segments due to reorganizations, as applicable.

Goodwill Impairment

We test goodwill for impairment annually on May 1 at the reporting unit level, primarily using a discounted cash flow methodology with a peer-based, risk-adjusted weighted average cost of capital. We believe use of a discounted cash flow approach is the most reliable indicator of the fair values of the businesses.

No instances of impairment were identified in our May 1, 2021, May 1, 2020, or May 1, 2019 tests. As of June 30, 2021 and 2020, accumulated goodwill impairment was $11.3 billion.

NOTE 10 INTANGIBLE ASSETS

The components of intangible assets, all of which are finite-lived, were as follows:

 

(In millions)

 

Gross
Carrying
Amount

 

 

Accumulated
Amortization

 

 

Net Carrying
Amount

 

 

Gross
Carrying
Amount

 

 

Accumulated
Amortization

 

 

Net Carrying
Amount

 

 

 

 

 

 

 

 

 

 

 

June 30,

 

 

 

 

 

 

 

2021

 

 

 

 

 

 

 

 

2020

 

 

 

 

 

 

 

 

Technology-based

 

$

9,779

 

 

$

(7,007

)

 

$

2,772

 

 

$

8,160

 

 

$

(6,381

)

 

$

1,779

 

Customer-related

 

 

4,958

 

 

 

(2,859

)

 

 

2,099

 

 

 

4,967

 

 

 

(2,320

)

 

 

2,647

 

Marketing-related

 

 

4,792

 

 

 

(1,878

)

 

 

2,914

 

 

 

4,158

 

 

 

(1,588

)

 

 

2,570

 

Contract-based

 

 

446

 

 

 

(431

)

 

 

15

 

 

 

474

 

 

 

(432

)

 

 

42

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

19,975

(a)

 

$

(12,175

)

 

$

7,800

 

 

$

17,759

 

 

$

(10,721

)

 

$

7,038

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(a)

Includes intangible assets of $2.0 billion related to ZeniMax. See Note 8 – Business Combinations for further information.

No material impairments of intangible assets were identified during fiscal years 2021, 2020, or 2019. We estimate that we have no significant residual value related to our intangible assets.

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Item 8

 

The components of intangible assets acquired during the periods presented were as follows:

 

(In millions)

 

Amount

 

 

Weighted

Average Life

 

 

Amount

 

 

Weighted

Average Life

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2021

 

 

 

 

 

2020

 

 

 

 

 

 

 

 

 

Technology-based

 

$

1,628

 

 

 

4 years

 

 

$

531

 

 

 

6 years

 

Customer-related

 

 

96

 

 

 

4 years

 

 

 

303

 

 

 

5 years

 

Marketing-related

 

 

625

 

 

 

6 years

 

 

 

2

 

 

 

2 years

 

Contract-based

 

 

10

 

 

 

3 years

 

 

 

0

 

 

 

0 years

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

2,359

 

 

 

5 years

 

 

$

836

 

 

 

5 years

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Intangible assets amortization expense was $1.6 billion, $1.6 billion, and $1.9 billion for fiscal years 2021, 2020, and 2019, respectively.

The following table outlines the estimated future amortization expense related to intangible assets held as of June 30, 2021:

 

(In millions)

 

 

 

 

 

 

 

 

Year Ending June 30,

 

 

 

 

 

 

2022

 

$

1,683

 

2023

 

 

1,722

 

2024

 

 

1,415

 

2025

 

 

755

 

2026

 

 

498

 

Thereafter

 

 

1,727

 

 

 

 

 

 

 

 

Total

 

$

7,800

 

 

 

 

 

 

 

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PART II

Item 8

 

NOTE 11 — DEBT

The components of debt were as follows:

 

(In millions, issuance by calendar year)

 

Maturities

(calendar year)

 

Stated Interest

Rate

 

 

Effective Interest

Rate

 

June 30,

2021

 

 

June 30,

2020

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2009 issuance of $3.8 billion (a)

 

 

 

 

2039

 

 

 

 

5.20%

 

 

 

 

5.24%

 

 

$

520

 

 

$

559

 

2010 issuance of $4.8 billion (a)

 

 

 

 

2040

 

 

 

 

4.50%

 

 

 

 

4.57%

 

 

 

486

 

 

 

1,571

 

2011 issuance of $2.3 billion (a)

 

 

 

 

2041

 

 

 

 

5.30%

 

 

 

 

5.36%

 

 

 

718

 

 

 

1,270

 

2012 issuance of $2.3 billion (a)

 

 

2022

2042

 

 

2.13%

3.50%

 

 

2.24%

3.57%

 

 

 

1,204

 

 

 

1,650

 

2013 issuance of $5.2 billion (a)

 

 

2023

2043

 

 

2.38%

4.88%

 

 

2.47%

4.92%

 

 

 

2,814

 

 

 

2,919

 

2013 issuance of €4.1 billion

 

 

2021

2033

 

 

2.13%

3.13%

 

 

2.23%

3.22%

 

 

 

4,803

 

 

 

4,549

 

2015 issuance of $23.8 billion (a)

 

 

2022

2055

 

 

2.38%

4.75%

 

 

2.47%

4.78%

 

 

 

12,305

 

 

 

15,549

 

2016 issuance of $19.8 billion (a)

 

 

2021

2056

 

 

1.55%

3.95%

 

 

1.64%

4.03%

 

 

 

12,180

 

 

 

16,955

 

2017 issuance of $17.0 billion (a)

 

 

2022

2057

 

 

2.40%

4.50%

 

 

2.52%

4.53%

 

 

 

10,695

 

 

 

12,385

 

2020 issuance of $10.0 billion (a)

 

 

2050

2060

 

 

2.53%

2.68%

 

 

2.53%

2.68%

 

 

 

10,000

 

 

 

10,000

 

2021 issuance of $8.2 billion (a)

 

 

2052

2062

 

 

2.92%

3.04%

 

 

2.92%

3.04%

 

 

 

8,185

 

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total face value

 

 

 

 

 

 

 

 

 

 

 

 

63,910

 

 

 

67,407

 

Unamortized discount and issuance costs

 

 

 

 

 

 

 

 

 

 

 

 

(511

)

 

 

(554

)

Hedge fair value adjustments (b)

 

 

 

 

 

 

 

 

 

 

 

 

40

 

 

 

93

 

Premium on debt exchange (a)

 

 

 

 

 

 

 

 

 

 

 

 

(5,293

)

 

 

(3,619

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total debt

 

 

 

 

 

 

 

 

 

 

 

 

58,146

 

 

 

63,327

 

Current portion of long-term debt

 

 

 

 

 

 

 

 

 

 

 

 

(8,072

)

 

 

(3,749

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Long-term debt

 

 

 

 

 

 

 

 

 

 

 

$

50,074

 

 

$

59,578

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(a)

In March 2021 and June 2020, we exchanged a portion of our existing debt at a premium for cash and new debt with longer maturities. The premiums are amortized over the terms of the new debt.

(b)

Refer to Note 5 – Derivatives for further information on the interest rate swaps related to fixed-rate debt.

As of June 30, 2021 and 2020, the estimated fair value of long-term debt, including the current portion, was $70.0 billion and $77.1 billion, respectively. The estimated fair values are based on Level 2 inputs.

Debt in the table above is comprised of senior unsecured obligations and ranks equally with our other outstanding obligations. Interest is paid semi-annually, except for the Euro-denominated debt, which is paid annually. Cash paid for interest on our debt for fiscal years 2021, 2020, and 2019 was $2.0 billion, $2.4 billion, and $2.4 billion, respectively.

The following table outlines maturities of our long-term debt, including the current portion, as of June 30, 2021:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ending June 30,

 

 

 

 

 

 

 

 

 

2022

 

$

8,075

 

2023

 

 

2,750

 

2024

 

 

5,250

 

2025

 

 

2,250

 

2026

 

 

3,000

 

Thereafter

 

 

42,585

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

63,910

 

 

 

 

 

 

 

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PART II

Item 8

 

NOTE 12 — INCOME TAXES

Tax Cuts and Jobs Act

On December 22, 2017, the Tax Cuts and Jobs Act (“TCJA”) was enacted into law, which significantly changed existing U.S. tax law and included numerous provisions that affect our business. We recorded a provisional net charge of $13.7 billion related to the enactment of the TCJA in fiscal year 2018 and adjusted the provisional net charge by recording additional tax expense of $157 million in fiscal year 2019 pursuant to Securities and Exchange Commission Staff Accounting Bulletin No. 118.

In fiscal year 2019, in response to the TCJA and recently issued regulations, we transferred certain intangible properties held by our foreign subsidiaries to the U.S. and Ireland. The transfers of intangible properties resulted in a $2.6 billion net income tax benefit recorded in the fourth quarter of fiscal year 2019, as the value of future tax deductions exceeded the current tax liability from foreign jurisdictions and U.S. global intangible low-taxed income (“GILTI”) tax.

Provision for Income Taxes

The components of the provision for income taxes were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2021

 

 

2020

 

 

2019

 

 

 

 

 

Current Taxes

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. federal

 

$

3,285

 

 

$

3,537

 

 

$

4,718

 

U.S. state and local

 

 

1,229

 

 

 

763

 

 

 

662

 

Foreign

 

 

5,467

 

 

 

4,444

 

 

 

5,531

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Current taxes

 

$

9,981

 

 

$

8,744

 

 

$

10,911

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deferred Taxes

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. federal

 

$

25

 

 

$

58

 

 

$

(5,647

)

U.S. state and local

 

 

(204

)

 

 

(6

)

 

 

(1,010

)

Foreign

 

 

29

 

 

 

(41

)

 

 

194

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deferred taxes

 

$

(150

)

 

$

11

 

 

$

(6,463

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Provision for income taxes

 

$

9,831

 

 

$

8,755

 

 

$

4,448

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. and foreign components of income before income taxes were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2021

 

 

2020

 

 

2019

 

 

 

 

 

U.S.

 

$

34,972

 

 

$

24,116

 

 

$

15,799

 

Foreign

 

 

36,130

 

 

 

28,920

 

 

 

27,889

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Income before income taxes

 

$

71,102

 

 

$

53,036

 

 

$

43,688

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

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PART II

Item 8

 

Effective Tax Rate

The items accounting for the difference between income taxes computed at the U.S. federal statutory rate and our effective rate were as follows:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2021

 

 

2020

 

 

2019

 

 

 

 

 

Federal statutory rate

 

 

21.0%

 

 

 

21.0%

 

 

 

21.0%

 

Effect of:

 

 

 

 

 

 

 

 

 

 

 

 

Foreign earnings taxed at lower rates

 

 

(2.7)%

 

 

 

(3.7)%

 

 

 

(4.1)%

 

Impact of the enactment of the TCJA

 

 

0%

 

 

 

0%

 

 

 

0.4%

 

Impact of intangible property transfers

 

 

0%

 

 

 

0%

 

 

 

(5.9)%

 

Foreign-derived intangible income deduction

 

 

(1.3)%

 

 

 

(1.1)%

 

 

 

(1.4)%

 

State income taxes, net of federal benefit

 

 

1.4%

 

 

 

1.3%

 

 

 

0.7%

 

Research and development credit

 

 

(0.9)%

 

 

 

(1.1)%

 

 

 

(1.1)%

 

Excess tax benefits relating to stock-based compensation

 

 

(2.4)%

 

 

 

(2.2)%

 

 

 

(2.2)%

 

Interest, net

 

 

0.5%

 

 

 

1.0%

 

 

 

1.0%

 

Other reconciling items, net

 

 

(1.8)%

 

 

 

1.3%

 

 

 

1.8%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Effective rate

 

 

13.8%

 

 

 

16.5%

 

 

 

10.2%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

We have historically paid India withholding taxes on software sales through distributor withholding and tax audit assessments in India. In March 2021, the India Supreme Court ruled favorably in the case of Engineering Analysis Centre of Excellence Private Limited vs The Commissioner of Income Tax for companies in 86 separate appeals, some dating back to 2012, holding that software sales are not subject to India withholding taxes. Although we were not a party to the appeals, our software sales in India were determined to be not subject to withholding taxes. Therefore, we recorded a net income tax benefit of $620 million in the third quarter of fiscal year 2021 to reflect the results of the India Supreme Court decision impacting fiscal year 1996 through fiscal year 2016.

The decrease from the federal statutory rate in fiscal year 2021 is primarily due to earnings taxed at lower rates in foreign jurisdictions resulting from producing and distributing our products and services through our foreign regional operations centers in Ireland and Puerto Rico, tax benefits relating to stock-based compensation, and tax benefits from the India Supreme Court decision on withholding taxes. The decrease from the federal statutory rate in fiscal year 2020 is primarily due to earnings taxed at lower rates in foreign jurisdictions resulting from producing and distributing our products and services through our foreign regional operations centers in Ireland and Puerto Rico, and tax benefits relating to stock-based compensation. The decrease from the federal statutory rate in fiscal year 2019 is primarily due to a $2.6 billion net income tax benefit related to intangible property transfers, and earnings taxed at lower rates in foreign jurisdictions resulting from producing and distributing our products and services through our foreign regional operations centers in Ireland, Singapore, and Puerto Rico. In fiscal year 2021 and 2020, our foreign regional operating centers in Ireland and Puerto Rico, which are taxed at rates lower than the U.S. rate, generated 82% and 86% of our foreign income before tax. In fiscal years 2019, our foreign regional operating centers in Ireland, Singapore, and Puerto Rico, which are taxed at rates lower than the U.S. rate, generated 82% of our foreign income before tax, respectively. Other reconciling items, net consists primarily of tax credits and GILTI tax, and in fiscal year 2021, includes tax benefits from the India Supreme Court decision on withholding taxes. In fiscal years 2021, 2020, and 2019, there were no individually significant other reconciling items.

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PART II

Item 8

 

The decrease in our effective tax rate for fiscal year 2021 compared to fiscal year 2020 was primarily due to tax benefits from the India Supreme Court decision on withholding taxes, an agreement between the U.S. and India tax authorities related to transfer pricing, final TCJA regulations, and an increase in tax benefits relating to stock-based compensation. The increase in our effective tax rate for fiscal year 2020 compared to fiscal year 2019 was primarily due to a $2.6 billion net income tax benefit in the fourth quarter of fiscal year 2019 related to intangible property transfers.

The components of the deferred income tax assets and liabilities were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30,

 

2021

 

 

2020

 

 

 

 

Deferred Income Tax Assets

 

 

 

 

 

 

 

 

 

 

 

Stock-based compensation expense

 

$

502

 

 

$

461

 

Accruals, reserves, and other expenses

 

 

2,960

 

 

 

2,721

 

Loss and credit carryforwards

 

 

1,090

 

 

 

865

 

Amortization

 

 

6,346

 

 

 

6,737

 

Leasing liabilities

 

 

4,060

 

 

 

3,025

 

Unearned revenue

 

 

2,659

 

 

 

1,553

 

Other

 

 

543

 

 

 

354

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deferred income tax assets

 

 

18,160

 

 

 

15,716

 

Less valuation allowance

 

 

(769

)

 

 

(755

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deferred income tax assets, net of valuation allowance

 

$

17,391

 

 

$

14,961

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deferred Income Tax Liabilities

 

 

 

 

 

 

 

 

 

 

 

Book/tax basis differences in investments and debt

 

$

(2,605

)

 

$

(2,642

)

Leasing assets

 

 

(3,834

)

 

 

(2,817

)

Depreciation

 

 

(1,010

)

 

 

(376

)

Deferred GILTI tax liabilities

 

 

(2,815

)

 

 

(2,581

)

Other

 

 

(144

)

 

 

(344

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deferred income tax liabilities

 

$

(10,408

)

 

$

(8,760

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net deferred income tax assets

 

$

6,983

 

 

$

6,201

 

 

 

 

 

 

 

 

 

 

 

 

 

Reported As

 

 

 

 

 

 

 

 

 

 

 

Other long-term assets

 

$

7,181

 

 

$

6,405

 

Long-term deferred income tax liabilities

 

 

(198

)

 

 

(204

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net deferred income tax assets

 

$

6,983

 

 

$

6,201

 

 

 

 

 

 

 

 

 

 

 

Deferred income tax balances reflect the effects of temporary differences between the carrying amounts of assets and liabilities and their tax bases and are stated at enacted tax rates expected to be in effect when the taxes are paid or recovered.

As of June 30, 2021, we had federal, state, and foreign net operating loss carryforwards of $304 million, $1.3 billion, and $2.0 billion, respectively. The federal and state net operating loss carryforwards will expire in various years from fiscal 2022 through 2041, if not utilized. The majority of our foreign net operating loss carryforwards do not expire. Certain acquired net operating loss carryforwards are subject to an annual limitation but are expected to be realized with the exception of those which have a valuation allowance.

The valuation allowance disclosed in the table above relates to the foreign net operating loss carryforwards and other net deferred tax assets that may not be realized. In fiscal year 2020, we removed $2.0 billion of foreign net operating losses and corresponding valuation allowances as a result of the liquidation of a foreign subsidiary. There was no impact to our consolidated financial statements.

Income taxes paid, net of refunds, were $13.4 billion, $12.5 billion, and $8.4 billion in fiscal years 2021, 2020, and 2019, respectively.

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PART II

Item 8

 

Uncertain Tax Positions

Gross unrecognized tax benefits related to uncertain tax positions as of June 30, 2021, 2020, and 2019, were $14.6 billion, $13.8 billion, and $13.1 billion, respectively, which were primarily included in long-term income taxes in our consolidated balance sheets. If recognized, the resulting tax benefit would affect our effective tax rates for fiscal years 2021, 2020, and 2019 by $12.5 billion, $12.1 billion, and $12.0 billion, respectively.

As of June 30, 2021, 2020, and 2019, we had accrued interest expense related to uncertain tax positions of $4.3 billion, $4.0 billion, and $3.4 billion, respectively, net of income tax benefits. The provision for income taxes for fiscal years 2021, 2020, and 2019 included interest expense related to uncertain tax positions of $274 million, $579 million, and $515 million, respectively, net of income tax benefits.

The aggregate changes in the gross unrecognized tax benefits related to uncertain tax positions were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2021

 

 

2020

 

 

2019

 

 

 

 

 

Beginning unrecognized tax benefits

 

$

13,792

 

 

$

13,146

 

 

$

11,961

 

Decreases related to settlements

 

 

(195

)

 

 

(31

)

 

 

(316

)

Increases for tax positions related to the current year

 

 

790

 

 

 

647

 

 

 

2,106

 

Increases for tax positions related to prior years

 

 

461

 

 

 

366

 

 

 

508

 

Decreases for tax positions related to prior years

 

 

(297

)

 

 

(331

)

 

 

(1,113

)

Decreases due to lapsed statutes of limitations

 

 

(1

)

 

 

(5

)

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Ending unrecognized tax benefits

 

$

14,550

 

 

$

13,792

 

 

$

13,146

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

We settled a portion of the Internal Revenue Service (“IRS”) audit for tax years 2004 to 2006 in fiscal year 2011. In February 2012, the IRS withdrew its 2011 Revenue Agents Report related to unresolved issues for tax years 2004 to 2006 and reopened the audit phase of the examination. We also settled a portion of the IRS audit for tax years 2007 to 2009 in fiscal year 2016, and a portion of the IRS audit for tax years 2010 to 2013 in fiscal year 2018. In the second quarter of fiscal year 2021, we settled an additional portion of the IRS audits for tax years 2004 to 2013 and made a payment of $1.7 billion, including tax and interest. We remain under audit for tax years 2004 to 2017.

As of June 30, 2021, the primary unresolved issues for the IRS audits relate to transfer pricing, which could have a material impact in our consolidated financial statements when the matters are resolved. We believe our allowances for income tax contingencies are adequate. We have not received a proposed assessment for the unresolved key transfer pricing issues and do not expect a final resolution of these issues in the next 12 months. Based on the information currently available, we do not anticipate a significant increase or decrease to our tax contingencies for these issues within the next 12 months.

We are subject to income tax in many jurisdictions outside the U.S. Our operations in certain jurisdictions remain subject to examination for tax years 1996 to 2020, some of which are currently under audit by local tax authorities. The resolution of each of these audits is not expected to be material to our consolidated financial statements.

 

NOTE 13 — UNEARNED REVENUE

Unearned revenue by segment was as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

June 30,

 

2021

 

 

2020

 

 

 

 

Productivity and Business Processes

 

$

22,120

 

 

$

18,643

 

Intelligent Cloud

 

 

17,710

 

 

 

16,620

 

More Personal Computing

 

 

4,311

 

 

 

3,917

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

44,141

 

 

$

39,180

 

 

 

 

 

 

 

 

 

 

 

85


PART II

Item 8

 

Changes in unearned revenue were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30, 2021

 

 

 

 

 

 

 

 

Balance, beginning of period

 

 

$

39,180

 

Deferral of revenue

 

 

 

94,565

 

Recognition of unearned revenue

 

 

 

(89,604

)

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

 

$

44,141

 

 

 

 

 

 

 

 

Revenue allocated to remaining performance obligations, which includes unearned revenue and amounts that will be invoiced and recognized as revenue in future periods, was $146 billion as of June 30, 2021, of which $141 billion is related to the commercial portion of revenue. We expect to recognize approximately 50% of this revenue over the next 12 months and the remainder thereafter.

NOTE 14 LEASES

We have operating and finance leases for datacenters, corporate offices, research and development facilities, Microsoft Experience Centers, and certain equipment. Our leases have remaining lease terms of 1 year to 15 years, some of which include options to extend the leases for up to 5 years, and some of which include options to terminate the leases within 1 year.

The components of lease expense were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2021

 

 

 

2020

 

 

 

2019

 

 

 

 

 

 

 

 

 

 

 

Operating lease cost

 

$

2,127

 

 

$

2,043

 

 

$

1,707

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Finance lease cost:

 

 

 

 

 

 

 

 

 

 

 

 

Amortization of right-of-use assets

 

$

921

 

 

$

611

 

 

$

370

 

Interest on lease liabilities

 

 

386

 

 

 

336

 

 

 

247

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total finance lease cost

 

$

1,307

 

 

$

947

 

 

$

617

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Supplemental cash flow information related to leases was as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2021

 

 

 

2020

 

 

 

2019

 

 

 

 

 

 

 

 

 

 

 

Cash paid for amounts included in the measurement of lease liabilities:

 

 

 

 

 

 

 

 

 

 

 

 

Operating cash flows from operating leases

 

$

2,052

 

 

$

1,829

 

 

$

1,670

 

Operating cash flows from finance leases

 

 

386

 

 

 

336

 

 

 

247

 

Financing cash flows from finance leases

 

 

648

 

 

 

409

 

 

 

221

 

 

 

 

 

 

 

 

 

 

 

Right-of-use assets obtained in exchange for lease obligations:

 

 

 

 

 

 

 

 

 

 

 

 

Operating leases

 

 

4,380

 

 

 

3,677

 

 

 

2,303

 

Finance leases

 

 

3,290

 

 

 

3,467

 

 

 

2,532

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

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PART II

Item 8

 

Supplemental balance sheet information related to leases was as follows:

 

(In millions, except lease term and discount rate)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30,

 

2021

 

 

2020

 

 

 

 

Operating Leases

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating lease right-of-use assets

 

$

11,088

 

 

$

8,753

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other current liabilities

 

$

1,962

 

 

$

1,616

 

Operating lease liabilities

 

 

9,629

 

 

 

7,671

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total operating lease liabilities

 

$

11,591

 

 

$

9,287

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Finance Leases

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Property and equipment, at cost

 

$

14,107

 

 

$

10,371

 

Accumulated depreciation

 

 

(2,306

)

 

 

(1,385

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Property and equipment, net

 

$

11,801

 

 

$

8,986

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other current liabilities

 

$

791

 

 

$

540

 

Other long-term liabilities

 

 

11,750

 

 

 

8,956

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total finance lease liabilities

 

$

12,541

 

 

$

9,496

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Weighted Average Remaining Lease Term

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating leases

 

 

8 years

 

 

 

8 years

 

Finance leases

 

 

12 years

 

 

 

13 years

 

 

 

 

 

 

 

 

 

 

Weighted Average Discount Rate

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating leases

 

 

2.2%

 

 

 

2.7%

 

Finance leases

 

 

3.4%

 

 

 

3.9%

 

 

 

 

 

 

 

 

 

 

 

The following table outlines maturities of our lease liabilities as of June 30, 2021:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ending June 30,

 

Operating

Leases

 

 

Finance

Leases

 

 

 

 

2022

 

$

2,125

 

 

$

1,179

 

2023

 

 

1,954

 

 

 

1,198

 

2024

 

 

1,751

 

 

 

1,211

 

2025

 

 

1,463

 

 

 

1,537

 

2026

 

 

1,133

 

 

 

1,220

 

Thereafter

 

 

4,111

 

 

 

8,856

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total lease payments

 

 

12,537

 

 

 

15,201

 

Less imputed interest

 

 

(946

)

 

 

(2,660

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

11,591

 

 

$

12,541

 

 

 

 

 

 

 

 

 

 

 

As of June 30, 2021, we have additional operating and finance leases, primarily for datacenters, that have not yet commenced of $5.4 billion and $7.3 billion, respectively. These operating and finance leases will commence between fiscal year 2022 and fiscal year 2026 with lease terms of 1 year to 15 years.

During fiscal year 2020, we recorded an impairment charge of $161 million to operating lease right-of-use assets due to the closing of our Microsoft Store physical locations.

 

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PART II

Item 8

 

NOTE 15 — CONTINGENCIES

Patent and Intellectual Property Claims

There were 63 patent infringement cases pending against Microsoft as of June 30, 2021, none of which are material individually or in aggregate.

Antitrust, Unfair Competition, and Overcharge Class Actions

Antitrust and unfair competition class action lawsuits were filed against us in British Columbia, Ontario, and Quebec, Canada. All three have been certified on behalf of Canadian indirect purchasers who acquired licenses for Microsoft operating system software and/or productivity application software between 1998 and 2010.

The trial of the British Columbia action commenced in May 2016. Following a mediation, the parties agreed to a global settlement of all three Canadian actions and submitted the proposed settlement agreement to the courts in all three jurisdictions for approval. The final settlement and form of notice have been approved by the courts in British Columbia, Ontario, and Quebec. The ten-month claims period commenced on November 23, 2020 and will close on September 23, 2021.

Other Antitrust Litigation and Claims

China State Administration for Market Regulation Investigation

In 2014, Microsoft was informed that China’s State Agency for Market Regulation (“SAMR”) (formerly State Administration for Industry and Commerce) had begun a formal investigation relating to China’s Anti-Monopoly Law, and the SAMR conducted onsite inspections of Microsoft offices in Beijing, Shanghai, Guangzhou, and Chengdu. In 2019, the SAMR presented preliminary views as to certain possible violations of China’s Anti-Monopoly Law.

Product-Related Litigation

U.S. Cell Phone Litigation

Microsoft Mobile Oy, a subsidiary of Microsoft, along with other handset manufacturers and network operators, is a defendant in 46 lawsuits, including 45 lawsuits filed in the Superior Court for the District of Columbia by individual plaintiffs who allege that radio emissions from cellular handsets caused their brain tumors and other adverse health effects. We assumed responsibility for these claims in our agreement to acquire Nokia’s Devices and Services business and have been substituted for the Nokia defendants. Nine of these cases were filed in 2002 and are consolidated for certain pre-trial proceedings; the remaining cases are stayed. In a separate 2009 decision, the Court of Appeals for the District of Columbia held that adverse health effect claims arising from the use of cellular handsets that operate within the U.S. Federal Communications Commission radio frequency emission guidelines (“FCC Guidelines”) are pre-empted by federal law. The plaintiffs allege that their handsets either operated outside the FCC Guidelines or were manufactured before the FCC Guidelines went into effect. The lawsuits also allege an industry-wide conspiracy to manipulate the science and testing around emission guidelines.

In 2013, the defendants in the consolidated cases moved to exclude the plaintiffs’ expert evidence of general causation on the basis of flawed scientific methodologies. In 2014, the trial court granted in part and denied in part the defendants’ motion to exclude the plaintiffs’ general causation experts. The defendants filed an interlocutory appeal to the District of Columbia Court of Appeals challenging the standard for evaluating expert scientific evidence. In October 2016, the Court of Appeals issued its decision adopting the standard advocated by the defendants and remanding the cases to the trial court for further proceedings under that standard. The plaintiffs have filed supplemental expert evidence, portions of which the defendants have moved to strike. In August 2018, the trial court issued an order striking portions of the plaintiffs’ expert reports. A hearing on general causation is scheduled for January and February of 2022.

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PART II

Item 8

 

Other Contingencies

We also are subject to a variety of other claims and suits that arise from time to time in the ordinary course of our business. Although management currently believes that resolving claims against us, individually or in aggregate, will not have a material adverse impact in our consolidated financial statements, these matters are subject to inherent uncertainties and management’s view of these matters may change in the future.

As of June 30, 2021, we accrued aggregate legal liabilities of $339 million. While we intend to defend these matters vigorously, adverse outcomes that we estimate could reach approximately $500 million in aggregate beyond recorded amounts are reasonably possible. Were unfavorable final outcomes to occur, there exists the possibility of a material adverse impact in our consolidated financial statements for the period in which the effects become reasonably estimable.

NOTE 16 STOCKHOLDERS’ EQUITY

Shares Outstanding

Shares of common stock outstanding were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2021

 

 

2020

 

 

2019

 

 

 

 

 

Balance, beginning of year

 

 

7,571

 

 

 

7,643

 

 

 

7,677

 

Issued

 

 

49

 

 

 

54

 

 

 

116

 

Repurchased

 

 

(101

)

 

 

(126

)

 

 

(150

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of year

 

 

7,519

 

 

 

7,571

 

 

 

7,643

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Share Repurchases

On September 20, 2016, our Board of Directors approved a share repurchase program authorizing up to $40.0 billion in share repurchases. This share repurchase program commenced in December 2016 and was completed in February 2020.

On September 18, 2019, our Board of Directors approved a share repurchase program authorizing up to $40.0 billion in share repurchases. This share repurchase program commenced in February 2020, following completion of the program approved on September 20, 2016, has no expiration date, and may be terminated at any time. As of June 30, 2021, $8.7 billion remained of this $40.0 billion share repurchase program.

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PART II

Item 8

 

We repurchased the following shares of common stock under the share repurchase programs:

 

(In millions)

 

Shares

 

 

Amount

 

 

Shares

 

 

Amount

 

 

Shares

 

 

Amount

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2021

 

 

2020

 

 

2019

 

 

 

 

 

 

 

 

First Quarter

 

 

25

 

 

$

5,270

 

 

 

29

 

 

$

4,000

 

 

 

24

 

 

$

2,600

 

Second Quarter

 

 

27

 

 

 

5,750

 

 

 

32

 

 

 

4,600

 

 

 

57

 

 

 

6,100

 

Third Quarter

 

 

25

 

 

 

5,750

 

 

 

37

 

 

 

6,000

 

 

 

36

 

 

 

3,899

 

Fourth Quarter

 

 

24

 

 

 

6,200

 

 

 

28

 

 

 

5,088

 

 

 

33

 

 

 

4,200

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

 

101

 

 

$

22,970

 

 

 

126

 

 

$

19,688

 

 

 

150

 

 

$

16,799

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Shares repurchased during fiscal year 2021 and the fourth quarter of fiscal year 2020 were under the share repurchase program approved on September 18, 2019. Shares repurchased during the third quarter of fiscal year 2020 were under the share repurchase programs approved on both September 20, 2016 and September 18, 2019. All other shares repurchased were under the share repurchase program approved on September 20, 2016. The above table excludes shares repurchased to settle employee tax withholding related to the vesting of stock awards of $4.4 billion, $3.3 billion, and $2.7 billion for fiscal years 2021, 2020, and 2019, respectively. All share repurchases were made using cash resources.

Dividends

Our Board of Directors declared the following dividends:

 

Declaration Date

Record Date

 

 

Payment Date

 

Dividend

Per Share

 

 

Amount

 

 

 

 

 

Fiscal Year 2021

 

 

 

 

 

 

 

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

September 15, 2020

 

 

November 19, 2020

 

 

 

December 10, 2020

 

 

$

0.56

 

 

$

4,230

 

December 2, 2020

 

 

February 18, 2021

 

 

 

March 11, 2021

 

 

 

0.56

 

 

 

4,221

 

March 16, 2021

 

 

May 20, 2021

 

 

 

June 10, 2021

 

 

 

0.56

 

 

 

4,214

 

June 16, 2021

 

 

August 19, 2021

 

 

 

September 9, 2021

 

 

 

0.56

 

 

 

4,211

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

 

 

 

 

 

 

 

 

$

2.24

 

 

$

16,876

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fiscal Year 2020

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

September 18, 2019

 

 

November 21, 2019

 

 

 

December 12, 2019

 

 

$

0.51

 

 

$

3,886

 

December 4, 2019

 

 

February 20, 2020

 

 

 

March 12, 2020

 

 

 

0.51

 

 

 

3,876

 

March 9, 2020

 

 

May 21, 2020

 

 

 

June 11, 2020

 

 

 

0.51

 

 

 

3,865

 

June 17, 2020

 

 

August 20, 2020

 

 

 

September 10, 2020

 

 

 

0.51

 

 

 

3,856

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

 

 

 

 

 

 

 

 

$

2.04

 

 

$

15,483

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

The dividend declared on June 16, 2021 was included in other current liabilities as of June 30, 2021.

 

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NOTE 17 — ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS)

The following table summarizes the changes in accumulated other comprehensive income (loss) by component:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2021

 

 

2020

 

 

2019

 

 

 

 

 

Derivatives

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

$

(38

)

 

$

0

 

 

$

173

 

Unrealized gains (losses), net of tax of $9, $(10), and $2

 

 

34

 

 

 

(38

)

 

 

160

 

Reclassification adjustments for gains included in earnings

 

 

(17

)

 

 

0

 

 

 

(341

)

Tax expense included in provision for income taxes

 

 

2

 

 

 

0

 

 

 

8

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Amounts reclassified from accumulated other comprehensive income (loss)

 

 

(15

)

 

 

0

 

 

 

(333

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net change related to derivatives, net of tax of $7, $(10), and $(6)

 

 

19

 

 

 

(38

)

 

 

(173

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

$

(19

)

 

$

(38

)

 

$

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Investments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

$

5,478

 

 

$

1,488

 

 

$

(850

)

Unrealized gains (losses), net of tax of $(589), $1,057, and $616

 

 

(2,216

)

 

 

3,987

 

 

 

2,331

 

Reclassification adjustments for (gains) losses included in other income (expense), net

 

 

(63

)

 

 

4

 

 

 

93

 

Tax expense (benefit) included in provision for income taxes

 

 

13

 

 

 

(1

)

 

 

(19

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Amounts reclassified from accumulated other comprehensive income (loss)

 

 

(50

)

 

 

3

 

 

 

74

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net change related to investments, net of tax of $(602), $1,058, and $635

 

 

(2,266

)

 

 

3,990

 

 

 

2,405

 

Cumulative effect of accounting changes

 

 

10

 

 

 

0

 

 

 

(67

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

$

3,222

 

 

$

5,478

 

 

$

1,488

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Translation Adjustments and Other

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

$

(2,254

)

 

$

 (1,828

)

 

$

 (1,510

)

Translation adjustments and other, net of tax effects of $(9), $1, and $(1)

 

 

873

 

 

 

(426

)

 

 

(318

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

$

(1,381

)

 

$

(2,254

)

 

$

(1,828

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Accumulated other comprehensive income (loss), end of period

 

$

1,822

 

 

$

3,186

 

 

$

(340

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

NOTE 18 — EMPLOYEE STOCK AND SAVINGS PLANS

We grant stock-based compensation to employees and directors. As of June 30, 2021, an aggregate of 251 million shares were authorized for future grant under our stock plans. Awards that expire or are canceled without delivery of shares generally become available for issuance under the plans. We issue new shares of Microsoft common stock to satisfy vesting of awards granted under our stock plans. We also have an ESPP for all eligible employees.

Stock-based compensation expense and related income tax benefits were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2021

 

 

2020

 

 

2019

 

 

 

 

 

Stock-based compensation expense

 

$

6,118

 

 

$

5,289

 

 

$

4,652

 

Income tax benefits related to stock-based compensation

 

 

1,065

 

 

 

938

 

 

 

816

 

 

 

 

Stock Plans

Stock awards entitle the holder to receive shares of Microsoft common stock as the award vests. Stock awards generally vest over a service period of four years or five years.

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Executive Incentive Plan

Under the Executive Incentive Plan, the Compensation Committee approves stock awards to executive officers and certain senior executives. RSUs generally vest ratably over a service period of four years. PSUs generally vest over a performance period of three years. The number of shares the PSU holder receives is based on the extent to which the corresponding performance goals have been achieved.

Activity for All Stock Plans

The fair value of stock awards was estimated on the date of grant using the following assumptions:

 

 

 

 

 

 

 

 

 

 

 

 

Year ended June 30,

 

 

 

 

2021

 

 

 

 

 

2020

 

 

 

 

 

2019

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Dividends per share (quarterly amounts)

 

$

0.51

0.56

 

 

$

0.46

0.51

 

 

$

0.42

0.46

 

Interest rates

 

 

0.01%

1.5%

 

 

 

0.1%

2.2%

 

 

 

1.8%

3.1%

 

 

 

 

 

 

 

 

 

 

During fiscal year 2021, the following activity occurred under our stock plans:

 

Shares

 

 

Weighted

Average

Grant-Date

Fair Value

 

 

 

 

 

(In millions)

 

 

 

 

 

Stock Awards

 

 

 

 

Nonvested balance, beginning of year

 

 

126

 

 

 $

 105.23

 

Granted (a)

 

 

40

 

 

 

221.13

 

Vested

 

 

(58

)

 

 

99.41

 

Forfeited

 

 

(8

)

 

 

129.92

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Nonvested balance, end of year

 

 

100

 

 

 $

152.51

 

 

 

 

 

 

 

 

 

 

 

(a)

Includes 2 million of PSUs granted at target and performance adjustments above target levels for fiscal years 2021, 2020, and 2019.

 

As of June 30, 2021, there was approximately $12.0 billion of total unrecognized compensation costs related to stock awards. These costs are expected to be recognized over a weighted average period of three years. The weighted average grant-date fair value of stock awards granted was $221.13, $140.49, and $107.02 for fiscal years 2021, 2020, and 2019, respectively. The fair value of stock awards vested was $13.4 billion, $10.1 billion, and $8.7 billion, for fiscal years 2021, 2020, and 2019, respectively.

Employee Stock Purchase Plan

We have an ESPP for all eligible employees. Shares of our common stock may be purchased by employees at three-month intervals at 90% of the fair market value on the last trading day of each three-month period. Employees may purchase shares having a value not exceeding 15% of their gross compensation during an offering period. Under the terms of the ESPP that were approved in 2012, the plan will terminate on December 31, 2022. We intend to request shareholder approval for a successor ESPP with a January 1, 2022 effective date and ten-year expiration of December 31, 2031 at our 2021 Annual Shareholders Meeting. No additional shares will be requested at this meeting. Employees purchased the following shares during the periods presented:

 

(Shares in millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2021

 

 

2020

 

 

2019

 

 

 

 

 

Shares purchased

 

 

8

 

 

 

9

 

 

 

11

 

Average price per share

 

$

207.88

 

 

$

142.22

 

 

$

104.85

 

 

 

 

As of June 30, 2021, 88 million shares of our common stock were reserved for future issuance through the ESPP.

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PART II

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Savings Plan

We have savings plans in the U.S. that qualify under Section 401(k) of the Internal Revenue Code, and a number of savings plans in international locations. Eligible U.S. employees may contribute a portion of their salary into the savings plans, subject to certain limitations. We contribute fifty cents for each dollar a participant contributes into the plans, with a maximum employer contribution of 50% of the IRS contribution limit for the calendar year. Employer-funded retirement benefits for all plans were $1.2 billion, $1.0 billion, and $877 million in fiscal years 2021, 2020, and 2019, respectively, and were expensed as contributed.

NOTE 19 — SEGMENT INFORMATION AND GEOGRAPHIC DATA

In its operation of the business, management, including our chief operating decision maker, who is also our Chief Executive Officer, reviews certain financial information, including segmented internal profit and loss statements prepared on a basis not consistent with GAAP. During the periods presented, we reported our financial performance based on the following segments: Productivity and Business Processes, Intelligent Cloud, and More Personal Computing.

Our reportable segments are described below.

Productivity and Business Processes

Our Productivity and Business Processes segment consists of products and services in our portfolio of productivity, communication, and information services, spanning a variety of devices and platforms. This segment primarily comprises:

 

Office Commercial (Office 365 subscriptions, the Office 365 portion of Microsoft 365 Commercial subscriptions, and Office licensed on-premises), comprising Office, Exchange, SharePoint, Microsoft Teams, Office 365 Security and Compliance, and Skype for Business.

 

Office Consumer, including Microsoft 365 Consumer subscriptions and Office licensed on-premises, and Office Consumer Services, including Skype, Outlook.com, and OneDrive.

 

LinkedIn, including Talent Solutions, Marketing Solutions, Premium Subscriptions, Sales Solutions, and Learning Solutions.

 

Dynamics business solutions, including Dynamics 365, comprising a set of intelligent, cloud-based applications across ERP, CRM, Customer Insights, Power Apps, and Power Automate; and on-premises ERP and CRM applications.

Intelligent Cloud

Our Intelligent Cloud segment consists of our public, private, and hybrid server products and cloud services that can power modern business and developers. This segment primarily comprises:

 

Server products and cloud services, including Azure; SQL Server, Windows Server, Visual Studio, System Center, and related Client Access Licenses (“CALs”); and GitHub.

 

Enterprise Services, including Premier Support Services and Microsoft Consulting Services.

More Personal Computing

Our More Personal Computing segment consists of products and services that put customers at the center of the experience with our technology. This segment primarily comprises:

 

Windows, including Windows OEM licensing and other non-volume licensing of the Windows operating system; Windows Commercial, comprising volume licensing of the Windows operating system, Windows cloud services, and other Windows commercial offerings; patent licensing; Windows Internet of Things; and MSN advertising.

 

Devices, including Surface and PC accessories.

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PART II

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Gaming, including Xbox hardware and Xbox content and services, comprising digital transactions, Xbox Game Pass and other subscriptions, video games, third-party video game royalties, cloud services, and advertising.

 

Search advertising.

Revenue and costs are generally directly attributed to our segments. However, due to the integrated structure of our business, certain revenue recognized and costs incurred by one segment may benefit other segments. Revenue from certain contracts is allocated among the segments based on the relative value of the underlying products and services, which can include allocation based on actual prices charged, prices when sold separately, or estimated costs plus a profit margin. Cost of revenue is allocated in certain cases based on a relative revenue methodology. Operating expenses that are allocated primarily include those relating to marketing of products and services from which multiple segments benefit and are generally allocated based on relative gross margin.

In addition, certain costs incurred at a corporate level that are identifiable and that benefit our segments are allocated to them. These allocated costs include legal, including settlements and fines, information technology, human resources, finance, excise taxes, field selling, shared facilities services, and customer service and support. Each allocation is measured differently based on the specific facts and circumstances of the costs being allocated. Certain corporate-level activity is not allocated to our segments.

Segment revenue and operating income were as follows during the periods presented:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

 

2021

 

 

 

2020

 

 

 

2019

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Revenue

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Productivity and Business Processes

 

$

53,915

 

 

$

46,398

 

 

$

41,160

 

Intelligent Cloud

 

 

60,080

 

 

 

48,366

 

 

 

38,985

 

More Personal Computing

 

 

54,093

 

 

 

48,251

 

 

 

45,698

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

168,088

 

 

$

143,015

 

 

$

125,843

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating Income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Productivity and Business Processes

 

$

24,351

 

 

$

18,724

 

 

$

16,219

 

Intelligent Cloud

 

 

26,126

 

 

 

18,324

 

 

 

13,920

 

More Personal Computing

 

 

19,439

 

 

 

15,911

 

 

 

12,820

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

69,916

 

 

$

52,959

 

 

$

42,959

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

No sales to an individual customer or country other than the United States accounted for more than 10% of revenue for fiscal years 2021, 2020, or 2019. Revenue, classified by the major geographic areas in which our customers were located, was as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2021

 

 

2020

 

 

2019

 

 

 

 

 

United States (a)

 

$

83,953

 

 

$

73,160

 

 

$

64,199

 

Other countries

 

 

84,135

 

 

 

69,855

 

 

 

61,644

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

168,088

 

 

$

143,015

 

 

$

 125,843

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(a)

Includes billings to OEMs and certain multinational organizations because of the nature of these businesses and the impracticability of determining the geographic source of the revenue.

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PART II

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Revenue from external customers, classified by significant product and service offerings, was as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2021

 

 

2020

 

 

2019

 

 

 

 

 

Server products and cloud services

 

$

52,589

 

 

$

41,379

 

 

$

32,622

 

Office products and cloud services

 

 

39,872

 

 

 

35,316

 

 

 

31,769

 

Windows

 

 

23,227

 

 

 

22,294

 

 

 

20,395

 

Gaming

 

 

15,370

 

 

 

11,575

 

 

 

11,386

 

LinkedIn

 

 

10,289

 

 

 

8,077

 

 

 

6,754

 

Search advertising

 

 

8,528

 

 

 

7,740

 

 

 

7,628

 

Enterprise Services

 

 

6,943

 

 

 

6,409

 

 

 

6,124

 

Devices

 

 

6,791

 

 

 

6,457

 

 

 

6,095

 

Other

 

 

4,479

 

 

 

3,768

 

 

 

3,070

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

168,088

 

 

$

143,015

 

 

$

125,843

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Our commercial cloud revenue, which includes Azure, Office 365 Commercial, the commercial portion of LinkedIn, Dynamics 365, and other commercial cloud properties, was $69.1 billion, $51.7 billion and $38.1 billion in fiscal years 2021, 2020, and 2019, respectively. These amounts are primarily included in Server products and cloud services, Office products and cloud services, and LinkedIn in the table above.

Assets are not allocated to segments for internal reporting presentations. A portion of amortization and depreciation is included with various other costs in an overhead allocation to each segment. It is impracticable for us to separately identify the amount of amortization and depreciation by segment that is included in the measure of segment profit or loss.

Long-lived assets, excluding financial instruments and tax assets, classified by the location of the controlling statutory company and with countries over 10% of the total shown separately, were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

June 30,

 

2021

 

 

2020

 

 

2019

 

 

 

 

 

United States

 

$

76,153

 

 

$

60,789

 

 

$

55,252

 

Ireland

 

 

13,303

 

 

 

12,734

 

 

 

12,958

 

Other countries

 

 

38,858

 

 

 

29,770

 

 

 

25,422

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

 128,314

 

 

$

 103,293

 

 

$

 93,632

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

95


PART II

Item 8

 

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the Stockholders and the Board of Directors of Microsoft Corporation

Opinion on the Financial Statements

We have audited the accompanying consolidated balance sheets of Microsoft Corporation and subsidiaries (the "Company") as of June 30, 2021 and 2020, the related consolidated statements of income, comprehensive income, cash flows, and stockholders' equity, for each of the three years in the period ended June 30, 2021, and the related notes (collectively referred to as the "financial statements"). In our opinion, the financial statements present fairly, in all material respects, the financial position of the Company as of June 30, 2021 and 2020, and the results of its operations and its cash flows for each of the three years in the period ended June 30, 2021, in conformity with accounting principles generally accepted in the United States of America.

We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the Company's internal control over financial reporting as of June 30, 2021, based on criteria established in Internal Control — Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated July 29, 2021, expressed an unqualified opinion on the Company's internal control over financial reporting.

Basis for Opinion

These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on the Company's financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.

Critical Audit Matters

The critical audit matters communicated below are matters arising from the current-period audit of the financial statements that were communicated or required to be communicated to the audit committee and that (1) relate to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the financial statements, taken as a whole, and we are not, by communicating the critical audit matters below, providing separate opinions on the critical audit matters or on the accounts or disclosures to which they relate.


96


PART II

Item 8

 

Revenue Recognition – Refer to Note 1 to the financial statements

Critical Audit Matter Description

The Company recognizes revenue upon transfer of control of promised products or services to customers in an amount that reflects the consideration the Company expects to receive in exchange for those products or services. The Company offers customers the ability to acquire multiple licenses of software products and services, including cloud-based services, in its customer agreements through its volume licensing programs.

Significant judgment is exercised by the Company in determining revenue recognition for these customer agreements, and includes the following:

 

Determination of whether products and services are considered distinct performance obligations that should be accounted for separately versus together, such as software licenses and related services that are sold with cloud-based services.

 

 

The pattern of delivery (i.e., timing of when revenue is recognized) for each distinct performance obligation.

 

 

Identification and treatment of contract terms that may impact the timing and amount of revenue recognized (e.g., variable consideration, optional purchases, and free services).

 

 

Determination of stand-alone selling prices for each distinct performance obligation and for products and services that are not sold separately.

 

Given these factors and due to the volume of transactions, the related audit effort in evaluating management's judgments in determining revenue recognition for these customer agreements was extensive and required a high degree of auditor judgment.

How the Critical Audit Matter Was Addressed in the Audit

Our principal audit procedures related to the Company's revenue recognition for these customer agreements included the following:

 

We tested the effectiveness of controls related to the identification of distinct performance obligations, the determination of the timing of revenue recognition, and the estimation of variable consideration.

 

 

We evaluated management's significant accounting policies related to these customer agreements for reasonableness.

 

 

We selected a sample of customer agreements and performed the following procedures:

 

 

-

Obtained and read contract source documents for each selection, including master agreements, and other documents that were part of the agreement.

 

 

-

Tested management's identification and treatment of contract terms.

 

 

-

Assessed the terms in the customer agreement and evaluated the appropriateness of management's application of their accounting policies, along with their use of estimates, in the determination of revenue recognition conclusions.

 

 

We evaluated the reasonableness of management's estimate of stand-alone selling prices for products and services that are not sold separately.

 

 

We tested the mathematical accuracy of management's calculations of revenue and the associated timing of revenue recognized in the financial statements.

 


97


PART II

Item 8

 

Income Taxes – Uncertain Tax Positions – Refer to Note 12 to the financial statements

Critical Audit Matter Description

The Company's long-term income taxes liability includes uncertain tax positions related to transfer pricing issues that remain unresolved with the Internal Revenue Service ("IRS"). The Company remains under IRS audit, or subject to IRS audit, for tax years subsequent to 2003. While the Company has settled a portion of the IRS audits, resolution of the remaining matters could have a material impact on the Company's financial statements.

Conclusions on recognizing and measuring uncertain tax positions involve significant estimates and management judgment and include complex considerations of the Internal Revenue Code, related regulations, tax case laws, and prior-year audit settlements. Given the complexity and the subjective nature of the transfer pricing issues that remain unresolved with the IRS, evaluating management's estimates relating to their determination of uncertain tax positions required extensive audit effort and a high degree of auditor judgment, including involvement of our tax specialists.

How the Critical Audit Matter Was Addressed in the Audit

Our principal audit procedures to evaluate management's estimates of uncertain tax positions related to unresolved transfer pricing issues included the following:

 

We evaluated the appropriateness and consistency of management's methods and assumptions used in the identification, recognition, measurement, and disclosure of uncertain tax positions, which included testing the effectiveness of the related internal controls.

 

 

We read and evaluated management's documentation, including relevant accounting policies and information obtained by management from outside tax specialists, that detailed the basis of the uncertain tax positions.

 

 

We tested the reasonableness of management's judgments regarding the future resolution of the uncertain tax positions, including an evaluation of the technical merits of the uncertain tax positions.

 

 

For those uncertain tax positions that had not been effectively settled, we evaluated whether management had appropriately considered new information that could significantly change the recognition, measurement or disclosure of the uncertain tax positions.

 

 

We evaluated the reasonableness of management's estimates by considering how tax law, including statutes, regulations and case law, impacted management's judgments.

 

 

/s/ DELOITTE & TOUCHE LLP

 

Seattle, Washington

July 29, 2021

 

We have served as the Company's auditor since 1983.

 

 

98


PART II

Item 9, 9A

 


YEAR 2020

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

INCOME STATEMENTS

 

(In millions, except per share amounts)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2020

 

 

2019

 

 

2018

 

 

 

 

 

Revenue:

 

 

 

 

 

 

 

 

 

 

 

 

Product

 

$

68,041

 

 

$

66,069

 

 

$

 64,497

 

Service and other

 

 

74,974

 

 

 

59,774

 

 

 

45,863

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total revenue

 

 

143,015

 

 

 

125,843

 

 

 

110,360

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cost of revenue:

 

 

 

 

 

 

 

 

 

 

 

 

Product

 

 

16,017

 

 

 

16,273

 

 

 

15,420

 

Service and other

 

 

30,061

 

 

 

26,637

 

 

 

22,933

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total cost of revenue

 

 

46,078

 

 

 

42,910

 

 

 

38,353

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross margin

 

 

96,937

 

 

 

82,933

 

 

 

72,007

 

Research and development

 

 

19,269

 

 

 

16,876

 

 

 

14,726

 

Sales and marketing

 

 

19,598

 

 

 

18,213

 

 

 

17,469

 

General and administrative

 

 

5,111

 

 

 

4,885

 

 

 

4,754

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating income

 

 

52,959

 

 

 

42,959

 

 

 

35,058

 

Other income, net

 

 

77

 

 

 

729

 

 

 

1,416

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Income before income taxes

 

 

53,036

 

 

 

43,688

 

 

 

36,474

 

Provision for income taxes

 

 

8,755

 

 

 

4,448

 

 

 

19,903

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

$

44,281

 

 

$

39,240

 

 

$

16,571

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Earnings per share:

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

$

5.82

 

 

$

5.11

 

 

$

2.15

 

Diluted

 

$

5.76

 

 

$

5.06

 

 

$

2.13

 

 

 

 

 

Weighted average shares outstanding:

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

 

7,610

 

 

 

7,673

 

 

 

7,700

 

Diluted

 

 

7,683

 

 

 

7,753

 

 

 

7,794

 

 

 

 

Refer to accompanying notes.

 

55


PART II

Item 8

 

COMPREHENSIVE INCOME STATEMENTS

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2020

 

 

2019

 

 

2018

 

 

 

 

 

Net income

 

$

44,281

 

 

$

39,240

 

 

$

16,571

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other comprehensive income (loss), net of tax:

 

 

 

 

 

 

 

 

 

 

 

 

Net change related to derivatives

 

 

(38

)

 

 

(173

)

 

 

39

 

Net change related to investments

 

 

3,990

 

 

 

2,405

 

 

 

(2,717

)

Translation adjustments and other

 

 

(426

)

 

 

(318

)

 

 

(178

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other comprehensive income (loss)

 

 

3,526

 

 

 

1,914

 

 

 

(2,856

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Comprehensive income

 

$

47,807

 

 

$

41,154

 

 

$

13,715

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Refer to accompanying notes.

 

 

 

56


PART II

Item 8

 

BALANCE SHEETS

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

June 30,

 

2020

 

 

2019

 

 

 

 

Assets

 

 

 

 

 

 

 

 

Current assets:

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

13,576

 

 

$

11,356

 

Short-term investments

 

 

122,951

 

 

 

122,463

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total cash, cash equivalents, and short-term investments

 

 

136,527

 

 

 

133,819

 

Accounts receivable, net of allowance for doubtful accounts of $788 and $411

 

 

32,011

 

 

 

29,524

 

Inventories

 

 

1,895

 

 

 

2,063

 

Other current assets

 

 

11,482

 

 

 

10,146

 

 

 

 

 

 

 

 

 

 

 

 

 

Total current assets

 

 

181,915

 

 

 

175,552

 

Property and equipment, net of accumulated depreciation of $43,197 and $35,330

 

 

44,151

 

 

 

36,477

 

Operating lease right-of-use assets

 

 

8,753

 

 

 

7,379

 

Equity investments

 

 

2,965

 

 

 

2,649

 

Goodwill

 

 

43,351

 

 

 

42,026

 

Intangible assets, net

 

 

7,038

 

 

 

7,750

 

Other long-term assets

 

 

13,138

 

 

 

14,723

 

 

 

 

 

 

 

 

 

 

 

 

 

Total assets

 

$

301,311

 

 

$

286,556

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Liabilities and stockholders’ equity

 

 

 

 

 

 

 

 

Current liabilities:

 

 

 

 

 

 

 

 

Accounts payable

 

$

12,530

 

 

$

9,382

 

Current portion of long-term debt

 

 

3,749

 

 

 

5,516

 

Accrued compensation

 

 

7,874

 

 

 

6,830

 

Short-term income taxes

 

 

2,130

 

 

 

5,665

 

Short-term unearned revenue

 

 

36,000

 

 

 

32,676

 

Other current liabilities

 

 

10,027

 

 

 

9,351

 

 

 

 

 

 

 

 

 

 

 

 

 

Total current liabilities

 

 

72,310

 

 

 

69,420

 

Long-term debt

 

 

59,578

 

 

 

66,662

 

Long-term income taxes

 

 

29,432

 

 

 

29,612

 

Long-term unearned revenue

 

 

3,180

 

 

 

4,530

 

Deferred income taxes

 

 

204

 

 

 

233

 

Operating lease liabilities

 

 

7,671

 

 

 

6,188

 

Other long-term liabilities

 

 

10,632

 

 

 

7,581

 

 

 

 

 

 

 

 

 

 

 

 

 

Total liabilities

 

 

183,007

 

 

 

184,226

 

 

 

 

 

 

 

 

 

 

 

 

 

Commitments and contingencies

 

 

 

 

 

 

 

 

Stockholders’ equity:

 

 

 

 

 

 

 

 

Common stock and paid-in capital – shares authorized 24,000; outstanding 7,571 and 7,643

 

 

80,552

 

 

 

78,520

 

Retained earnings

 

 

34,566

 

 

 

24,150

 

Accumulated other comprehensive income (loss)

 

 

3,186

 

 

 

(340

)

 

 

 

 

 

 

 

 

 

 

 

 

Total stockholders’ equity

 

 

118,304

 

 

 

102,330

 

 

 

 

 

 

 

 

 

 

 

 

 

Total liabilities and stockholders’ equity

 

$

301,311

 

 

$

286,556

 

 

 

 

 

 

 

 

 

 

 

Refer to accompanying notes.

 

57


PART II

Item 8

 

CASH FLOWS STATEMENTS

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2020

 

 

2019

 

 

2018

 

 

 

 

 

Operations

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

$

44,281

 

 

$

39,240

 

 

$

16,571

 

Adjustments to reconcile net income to net cash from operations:

 

 

 

 

 

 

 

 

 

 

 

 

Depreciation, amortization, and other

 

 

12,796

 

 

 

11,682

 

 

 

10,261

 

Stock-based compensation expense

 

 

5,289

 

 

 

4,652

 

 

 

3,940

 

Net recognized gains on investments and derivatives

 

 

(219

)

 

 

(792

)

 

 

(2,212

)

Deferred income taxes

 

 

11

 

 

 

(6,463

)

 

 

(5,143

)

Changes in operating assets and liabilities:

 

 

 

 

 

 

 

 

 

 

 

 

Accounts receivable

 

 

(2,577

)

 

 

(2,812

)

 

 

(3,862

)

Inventories

 

 

168

 

 

 

597

 

 

 

(465

)

Other current assets

 

 

(2,330

)

 

 

(1,718

)

 

 

(952

)

Other long-term assets

 

 

(1,037

)

 

 

(1,834

)

 

 

(285

)

Accounts payable

 

 

3,018

 

 

 

232

 

 

 

1,148

 

Unearned revenue

 

 

2,212

 

 

 

4,462

 

 

 

5,922

 

Income taxes

 

 

(3,631

)

 

 

2,929

 

 

 

18,183

 

Other current liabilities

 

 

1,346

 

 

 

1,419

 

 

 

798

 

Other long-term liabilities

 

 

1,348

 

 

 

591

 

 

 

(20

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net cash from operations

 

 

60,675

 

 

 

52,185

 

 

 

43,884

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Financing

 

 

 

 

 

 

 

 

 

 

 

 

Repayments of short-term debt, maturities of 90 days or less, net

 

 

0

 

 

 

0

 

 

 

(7,324

)

Proceeds from issuance of debt

 

 

0

 

 

 

0

 

 

 

7,183

 

Cash premium on debt exchange

 

 

(3,417

)

 

 

0

 

 

 

0

 

Repayments of debt

 

 

(5,518

)

 

 

(4,000

)

 

 

(10,060

)

Common stock issued

 

 

1,343

 

 

 

1,142

 

 

 

1,002

 

Common stock repurchased

 

 

(22,968

)

 

 

(19,543

)

 

 

(10,721

)

Common stock cash dividends paid

 

 

(15,137

)

 

 

(13,811

)

 

 

(12,699

)

Other, net

 

 

(334

)

 

 

(675

)

 

 

(971

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net cash used in financing

 

 

(46,031

)

 

 

(36,887

)

 

 

(33,590

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Investing

 

 

 

 

 

 

 

 

 

 

 

 

Additions to property and equipment

 

 

(15,441

)

 

 

(13,925

)

 

 

(11,632

)

Acquisition of companies, net of cash acquired, and purchases of intangible and other assets

 

 

(2,521

)

 

 

(2,388

)

 

 

(888

)

Purchases of investments

 

 

(77,190

)

 

 

(57,697

)

 

 

(137,380

)

Maturities of investments

 

 

66,449

 

 

 

20,043

 

 

 

26,360

 

Sales of investments

 

 

17,721

 

 

 

38,194

 

 

 

117,577

 

Other, net

 

 

(1,241

)

 

 

0

 

 

 

(98

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net cash used in investing

 

 

(12,223

)

 

 

(15,773

)

 

 

(6,061

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Effect of foreign exchange rates on cash and cash equivalents

 

 

(201

)

 

 

(115

)

 

 

50

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net change in cash and cash equivalents

 

 

2,220

 

 

 

(590

)

 

 

4,283

 

Cash and cash equivalents, beginning of period

 

 

11,356

 

 

 

11,946

 

 

 

7,663

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash and cash equivalents, end of period

 

$

13,576

 

 

$

11,356

 

 

$

11,946

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Refer to accompanying notes.

58


PART II

Item 8

 

STOCKHOLDERS’ EQUITY STATEMENTS

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2020

 

 

2019

 

 

2018

 

 

 

 

 

Common stock and paid-in capital

 

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

$

78,520

 

 

$

71,223

 

 

$

69,315

 

Common stock issued

 

 

1,343

 

 

 

6,829

 

 

 

1,002

 

Common stock repurchased

 

 

(4,599

)

 

 

(4,195

)

 

 

(3,033

)

Stock-based compensation expense

 

 

5,289

 

 

 

4,652

 

 

 

3,940

 

Other, net

 

 

(1

)

 

 

11

 

 

 

(1

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

 

80,552

 

 

 

78,520

 

 

 

71,223

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Retained earnings

 

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

 

24,150

 

 

 

13,682

 

 

 

17,769

 

Net income

 

 

44,281

 

 

 

39,240

 

 

 

16,571

 

Common stock cash dividends

 

 

(15,483

)

 

 

(14,103

)

 

 

(12,917

)

Common stock repurchased

 

 

(18,382

)

 

 

(15,346

)

 

 

(7,699

)

Cumulative effect of accounting changes

 

 

0

 

 

 

677

 

 

 

(42

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

 

34,566

 

 

 

24,150

 

 

 

13,682

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Accumulated other comprehensive income (loss)

 

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

 

(340

)

 

 

(2,187

)

 

 

627

 

Other comprehensive income (loss)

 

 

3,526

 

 

 

1,914

 

 

 

(2,856

)

Cumulative effect of accounting changes

 

 

0

 

 

 

(67

)

 

 

42

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

 

3,186

 

 

 

(340

)

 

 

(2,187

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total stockholders’ equity

 

$

 118,304

 

 

$

 102,330

 

 

$

 82,718

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash dividends declared per common share

 

$

2.04

 

 

$

1.84

 

 

$

1.68

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Refer to accompanying notes.

 

59


PART II

Item 8

 

NOTES TO FINANCIAL STATEMENTS

NOTE 1 — ACCOUNTING POLICIES

Accounting Principles

Our consolidated financial statements and accompanying notes are prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”).

We have recast certain prior period amounts to conform to the current period presentation. The recast of these prior period amounts had no impact on our consolidated balance sheets, consolidated income statements, or net cash from or used in operating, financing, or investing on our consolidated cash flows statements.

Principles of Consolidation

The consolidated financial statements include the accounts of Microsoft Corporation and its subsidiaries. Intercompany transactions and balances have been eliminated.

Estimates and Assumptions

Preparing financial statements requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue, and expenses. Examples of estimates and assumptions include: for revenue recognition, determining the nature and timing of satisfaction of performance obligations, and determining the standalone selling price (“SSP”) of performance obligations, variable consideration, and other obligations such as product returns and refunds; loss contingencies; product warranties; the fair value of and/or potential impairment of goodwill and intangible assets for our reporting units; product life cycles; useful lives of our tangible and intangible assets; allowances for doubtful accounts; the market value of, and demand for, our inventory; stock-based compensation forfeiture rates; when technological feasibility is achieved for our products; the potential outcome of uncertain tax positions that have been recognized in our consolidated financial statements or tax returns; and determining the timing and amount of impairments for investments. Actual results and outcomes may differ from management’s estimates and assumptions due to risks and uncertainties, including uncertainty in the current economic environment due to the recent outbreak of a novel strain of the coronavirus (“COVID-19”).

In July 2020, we completed an assessment of the useful lives of our server and network equipment and determined we should increase the estimated useful life of server equipment from three years to four years and increase the estimated useful life of network equipment from two years to four years. This change in accounting estimate will be effective beginning fiscal year 2021.

Foreign Currencies

Assets and liabilities recorded in foreign currencies are translated at the exchange rate on the balance sheet date. Revenue and expenses are translated at average rates of exchange prevailing during the year. Translation adjustments resulting from this process are recorded to other comprehensive income.

Revenue

Product Revenue and Service and Other Revenue

Product revenue includes sales from operating systems; cross-device productivity applications; server applications; business solution applications; desktop and server management tools; software development tools; video games; and hardware such as PCs, tablets, gaming and entertainment consoles, other intelligent devices, and related accessories.

Service and other revenue includes sales from cloud-based solutions that provide customers with software, services, platforms, and content such as Office 365, Azure, Dynamics 365, and Xbox Live; solution support; and consulting services. Service and other revenue also includes sales from online advertising and LinkedIn.

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Revenue Recognition

Revenue is recognized upon transfer of control of promised products or services to customers in an amount that reflects the consideration we expect to receive in exchange for those products or services. We enter into contracts that can include various combinations of products and services, which are generally capable of being distinct and accounted for as separate performance obligations. Revenue is recognized net of allowances for returns and any taxes collected from customers, which are subsequently remitted to governmental authorities.

Nature of Products and Services

Licenses for on-premises software provide the customer with a right to use the software as it exists when made available to the customer. Customers may purchase perpetual licenses or subscribe to licenses, which provide customers with the same functionality and differ mainly in the duration over which the customer benefits from the software. Revenue from distinct on-premises licenses is recognized upfront at the point in time when the software is made available to the customer. In cases where we allocate revenue to software updates, primarily because the updates are provided at no additional charge, revenue is recognized as the updates are provided, which is generally ratably over the estimated life of the related device or license.

Certain volume licensing programs, including Enterprise Agreements, include on-premises licenses combined with Software Assurance (“SA”). SA conveys rights to new software and upgrades released over the contract period and provides support, tools, and training to help customers deploy and use products more efficiently. On-premises licenses are considered distinct performance obligations when sold with SA. Revenue allocated to SA is generally recognized ratably over the contract period as customers simultaneously consume and receive benefits, given that SA comprises distinct performance obligations that are satisfied over time.

Cloud services, which allow customers to use hosted software over the contract period without taking possession of the software, are provided on either a subscription or consumption basis. Revenue related to cloud services provided on a subscription basis is recognized ratably over the contract period. Revenue related to cloud services provided on a consumption basis, such as the amount of storage used in a period, is recognized based on the customer utilization of such resources. When cloud services require a significant level of integration and interdependency with software and the individual components are not considered distinct, all revenue is recognized over the period in which the cloud services are provided.

Revenue from search advertising is recognized when the advertisement appears in the search results or when the action necessary to earn the revenue has been completed. Revenue from consulting services is recognized as services are provided.

Our hardware is generally highly dependent on, and interrelated with, the underlying operating system and cannot function without the operating system. In these cases, the hardware and software license are accounted for as a single performance obligation and revenue is recognized at the point in time when ownership is transferred to resellers or directly to end customers through retail stores and online marketplaces.

Refer to Note 19 – Segment Information and Geographic Data for further information, including revenue by significant product and service offering.

Significant Judgments

Our contracts with customers often include promises to transfer multiple products and services to a customer. Determining whether products and services are considered distinct performance obligations that should be accounted for separately versus together may require significant judgment. When a cloud-based service includes both on-premises software licenses and cloud services, judgment is required to determine whether the software license is considered distinct and accounted for separately, or not distinct and accounted for together with the cloud service and recognized over time. Certain cloud services, primarily Office 365, depend on a significant level of integration, interdependency, and interrelation between the desktop applications and cloud services, and are accounted for together as one performance obligation. Revenue from Office 365 is recognized ratably over the period in which the cloud services are provided.

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Judgment is required to determine the SSP for each distinct performance obligation. We use a single amount to estimate SSP for items that are not sold separately, including on-premises licenses sold with SA or software updates provided at no additional charge. We use a range of amounts to estimate SSP when we sell each of the products and services separately and need to determine whether there is a discount to be allocated based on the relative SSP of the various products and services.

In instances where SSP is not directly observable, such as when we do not sell the product or service separately, we determine the SSP using information that may include market conditions and other observable inputs. We typically have more than one SSP for individual products and services due to the stratification of those products and services by customers and circumstances. In these instances, we may use information such as the size of the customer and geographic region in determining the SSP.

Due to the various benefits from and the nature of our SA program, judgment is required to assess the pattern of delivery, including the exercise pattern of certain benefits across our portfolio of customers.

Our products are generally sold with a right of return, we may provide other credits or incentives, and in certain instances we estimate customer usage of our products and services, which are accounted for as variable consideration when determining the amount of revenue to recognize. Returns and credits are estimated at contract inception and updated at the end of each reporting period if additional information becomes available. Changes to our estimated variable consideration were not material for the periods presented.

Contract Balances

Timing of revenue recognition may differ from the timing of invoicing to customers. We record a receivable when revenue is recognized prior to invoicing, or unearned revenue when revenue is recognized subsequent to invoicing. For multi-year agreements, we generally invoice customers annually at the beginning of each annual coverage period. We record a receivable related to revenue recognized for multi-year on-premises licenses as we have an unconditional right to invoice and receive payment in the future related to those licenses.

As of June 30, 2020 and 2019, long-term accounts receivable, net of allowance for doubtful accounts, was $2.7 billion and $2.2 billion, respectively, and is included in other long-term assets in our consolidated balance sheets.

The allowance for doubtful accounts reflects our best estimate of probable losses inherent in the accounts receivable balance. We determine the allowance based on known troubled accounts, historical experience, and other currently available evidence.

Activity in the allowance for doubtful accounts was as follows:

 

(In millions)

 

 

 

 

 

 

 

Year Ended June 30,

 

 

2020

 

 

 

2019

 

 

 

2018

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

$

434

 

 

$

397

 

 

$

361

 

Charged to costs and other

 

 

560

 

 

 

153

 

 

 

134

 

Write-offs

 

 

(178

)

 

 

(116

)

 

 

(98

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

$

816

 

 

$

434

 

 

$

 397

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Allowance for doubtful accounts included in our consolidated balance sheets:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30,

 

 

2020

 

 

 

2019

 

 

 

2018

 

 

 

 

 

 

 

 

 

 

 

Accounts receivable, net of allowance for doubtful accounts

 

$

788

 

 

$

411

 

 

$

377

 

Other long-term assets

 

 

28

 

 

 

23

 

 

 

20

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

 816

 

 

$

 434

 

 

$

 397

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

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Unearned revenue comprises mainly unearned revenue related to volume licensing programs, which may include SA and cloud services. Unearned revenue is generally invoiced annually at the beginning of each contract period for multi-year agreements and recognized ratably over the coverage period. Unearned revenue also includes payments for consulting services to be performed in the future; LinkedIn subscriptions; Office 365 subscriptions; Xbox Live subscriptions; Windows 10 post-delivery support; Dynamics business solutions; Skype prepaid credits and subscriptions; and other offerings for which we have been paid in advance and earn the revenue when we transfer control of the product or service.

Refer to Note 13 – Unearned Revenue for further information, including unearned revenue by segment and changes in unearned revenue during the period.

Payment terms and conditions vary by contract type, although terms generally include a requirement of payment within 30 to 60 days. In instances where the timing of revenue recognition differs from the timing of invoicing, we have determined our contracts generally do not include a significant financing component. The primary purpose of our invoicing terms is to provide customers with simplified and predictable ways of purchasing our products and services, not to receive financing from our customers or to provide customers with financing. Examples include invoicing at the beginning of a subscription term with revenue recognized ratably over the contract period, and multi-year on-premises licenses that are invoiced annually with revenue recognized upfront.

We record financing receivables when we offer certain of our customers the option to acquire our software products and services offerings through a financing program in a limited number of countries. As of June 30, 2020 and 2019, our financing receivables, net were $5.2 billion and $4.3 billion, respectively, for short-term and long-term financing receivables, which are included in other current assets and other long-term assets in our consolidated balance sheets. We record an allowance to cover expected losses based on troubled accounts, historical experience, and other currently available evidence.

 

Assets Recognized from Costs to Obtain a Contract with a Customer

We recognize an asset for the incremental costs of obtaining a contract with a customer if we expect the benefit of those costs to be longer than one year. We have determined that certain sales incentive programs meet the requirements to be capitalized. Total capitalized costs to obtain a contract were immaterial during the periods presented and are included in other current and long-term assets in our consolidated balance sheets.

We apply a practical expedient to expense costs as incurred for costs to obtain a contract with a customer when the amortization period would have been one year or less. These costs include our internal sales force compensation program and certain partner sales incentive programs as we have determined annual compensation is commensurate with annual sales activities.

Cost of Revenue

Cost of revenue includes: manufacturing and distribution costs for products sold and programs licensed; operating costs related to product support service centers and product distribution centers; costs incurred to include software on PCs sold by original equipment manufacturers (“OEM”), to drive traffic to our websites, and to acquire online advertising space; costs incurred to support and maintain online products and services, including datacenter costs and royalties; warranty costs; inventory valuation adjustments; costs associated with the delivery of consulting services; and the amortization of capitalized software development costs. Capitalized software development costs are amortized over the estimated lives of the products.

Product Warranty

We provide for the estimated costs of fulfilling our obligations under hardware and software warranties at the time the related revenue is recognized. For hardware warranties, we estimate the costs based on historical and projected product failure rates, historical and projected repair costs, and knowledge of specific product failures (if any). The specific hardware warranty terms and conditions vary depending upon the product sold and the country in which we do business, but generally include parts and labor over a period generally ranging from 90 days to three years. For software warranties, we estimate the costs to provide bug fixes, such as security patches, over the estimated life of the software. We regularly reevaluate our estimates to assess the adequacy of the recorded warranty liabilities and adjust the amounts as necessary.

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Research and Development

Research and development expenses include payroll, employee benefits, stock-based compensation expense, and other headcount-related expenses associated with product development. Research and development expenses also include third-party development and programming costs, localization costs incurred to translate software for international markets, and the amortization of purchased software code and services content. Such costs related to software development are included in research and development expense until the point that technological feasibility is reached, which for our software products, is generally shortly before the products are released to production. Once technological feasibility is reached, such costs are capitalized and amortized to cost of revenue over the estimated lives of the products.

Sales and Marketing

Sales and marketing expenses include payroll, employee benefits, stock-based compensation expense, and other headcount-related expenses associated with sales and marketing personnel, and the costs of advertising, promotions, trade shows, seminars, and other programs. Advertising costs are expensed as incurred. Advertising expense was $1.6 billion in fiscal years 2020, 2019, and 2018.

Stock-Based Compensation

Compensation cost for stock awards, which include restricted stock units (“RSUs”) and performance stock units (“PSUs”), is measured at the fair value on the grant date and recognized as expense, net of estimated forfeitures, over the related service or performance period. The fair value of stock awards is based on the quoted price of our common stock on the grant date less the present value of expected dividends not received during the vesting period. We measure the fair value of PSUs using a Monte Carlo valuation model. Compensation cost for RSUs is recognized using the straight-line method and for PSUs is recognized using the accelerated method.

Compensation expense for the employee stock purchase plan (“ESPP”) is measured as the discount the employee is entitled to upon purchase and is recognized in the period of purchase.

Income Taxes

Income tax expense includes U.S. and international income taxes, and interest and penalties on uncertain tax positions. Certain income and expenses are not reported in tax returns and financial statements in the same year. The tax effect of such temporary differences is reported as deferred income taxes. Deferred tax assets are reported net of a valuation allowance when it is more likely than not that a tax benefit will not be realized. All deferred income taxes are classified as long-term in our consolidated balance sheets.

Financial Instruments

Investments

We consider all highly liquid interest-earning investments with a maturity of three months or less at the date of purchase to be cash equivalents. The fair values of these investments approximate their carrying values. In general, investments with original maturities of greater than three months and remaining maturities of less than one year are classified as short-term investments. Investments with maturities beyond one year may be classified as short-term based on their highly liquid nature and because such marketable securities represent the investment of cash that is available for current operations.

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Debt investments are classified as available-for-sale and realized gains and losses are recorded using the specific identification method. Changes in fair value, excluding other-than-temporary impairments, are recorded in other comprehensive income. Debt investments are impaired when a decline in fair value is judged to be other-than-temporary. Fair value is calculated based on publicly available market information or other estimates determined by management. We employ a systematic methodology on a quarterly basis that considers available quantitative and qualitative evidence in evaluating potential impairment of our investments. If the cost of an investment exceeds its fair value, we evaluate, among other factors, general market conditions, credit quality of debt instrument issuers, and the duration and extent to which the fair value is less than cost. We also evaluate whether we have plans to sell the security or it is more likely than not that we will be required to sell the security before recovery. In addition, we consider specific adverse conditions related to the financial health of, and business outlook, for the investee, including industry and sector performance, changes in technology, and operational and financing cash flow factors. Once a decline in fair value is determined to be other-than-temporary, an impairment charge is recorded in other income (expense), net and a new cost basis in the investment is established.

Equity investments with readily determinable fair values are measured at fair value. Equity investments without readily determinable fair values are measured using the equity method or measured at cost with adjustments for observable changes in price or impairments (referred to as the measurement alternative). We perform a qualitative assessment on a quarterly basis and recognize an impairment if there are sufficient indicators that the fair value of the investment is less than carrying value. Changes in value are recorded in other income (expense), net.

Derivatives

Derivative instruments are recognized as either assets or liabilities and measured at fair value. The accounting for changes in the fair value of a derivative depends on the intended use of the derivative and the resulting designation.

For derivative instruments designated as fair value hedges, gains and losses are recognized in other income (expense), net with offsetting gains and losses on the hedged items. Gains and losses representing hedge components excluded from the assessment of effectiveness are recognized in other income (expense), net.

For derivative instruments designated as cash flow hedges, gains and losses are initially reported as a component of other comprehensive income and subsequently recognized in earnings with the corresponding hedged item. Gains and losses representing hedge components excluded from the assessment of effectiveness are recognized in earnings.

For derivative instruments that are not designated as hedges, gains and losses from changes in fair values are primarily recognized in other income (expense), net.

Fair Value Measurements

We account for certain assets and liabilities at fair value. The hierarchy below lists three levels of fair value based on the extent to which inputs used in measuring fair value are observable in the market. We categorize each of our fair value measurements in one of these three levels based on the lowest level input that is significant to the fair value measurement in its entirety. These levels are:

 

Level 1 – inputs are based upon unadjusted quoted prices for identical instruments in active markets. Our Level 1 investments include U.S. government securities, common and preferred stock, and mutual funds. Our Level 1 derivative assets and liabilities include those actively traded on exchanges.

 

Level 2 – inputs are based upon quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, and model-based valuation techniques (e.g. the Black-Scholes model) for which all significant inputs are observable in the market or can be corroborated by observable market data for substantially the full term of the assets or liabilities. Where applicable, these models project future cash flows and discount the future amounts to a present value using market-based observable inputs including interest rate curves, credit spreads, foreign exchange rates, and forward and spot prices for currencies. Our Level 2 investments include commercial paper, certificates of deposit, U.S. agency securities, foreign government bonds, mortgage- and asset-backed securities, corporate notes and bonds, and municipal securities. Our Level 2 derivative assets and liabilities primarily include certain over-the-counter option and swap contracts.

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Level 3 – inputs are generally unobservable and typically reflect management’s estimates of assumptions that market participants would use in pricing the asset or liability. The fair values are therefore determined using model-based techniques, including option pricing models and discounted cash flow models. Our Level 3 assets and liabilities include investments in corporate notes and bonds, municipal securities, and goodwill and intangible assets, when they are recorded at fair value due to an impairment charge. Unobservable inputs used in the models are significant to the fair values of the assets and liabilities.

We measure equity investments without readily determinable fair values on a nonrecurring basis. The fair values of these investments are determined based on valuation techniques using the best information available, and may include quoted market prices, market comparables, and discounted cash flow projections.

Our other current financial assets and current financial liabilities have fair values that approximate their carrying values.

Inventories

Inventories are stated at average cost, subject to the lower of cost or net realizable value. Cost includes materials, labor, and manufacturing overhead related to the purchase and production of inventories. Net realizable value is the estimated selling price less estimated costs of completion, disposal, and transportation. We regularly review inventory quantities on hand, future purchase commitments with our suppliers, and the estimated utility of our inventory. If our review indicates a reduction in utility below carrying value, we reduce our inventory to a new cost basis through a charge to cost of revenue.

Property and Equipment

Property and equipment is stated at cost less accumulated depreciation, and depreciated using the straight-line method over the shorter of the estimated useful life of the asset or the lease term. The estimated useful lives of our property and equipment are generally as follows: computer software developed or acquired for internal use, three to seven years; computer equipment, two to three years; buildings and improvements, five to 15 years; leasehold improvements, three to 20 years; and furniture and equipment, one to 10 years. Land is not depreciated.

Leases

We determine if an arrangement is a lease at inception. Operating leases are included in operating lease right-of-use (“ROU”) assets, other current liabilities, and operating lease liabilities in our consolidated balance sheets. Finance leases are included in property and equipment, other current liabilities, and other long-term liabilities in our consolidated balance sheets.

ROU assets represent our right to use an underlying asset for the lease term and lease liabilities represent our obligation to make lease payments arising from the lease. Operating lease ROU assets and liabilities are recognized at commencement date based on the present value of lease payments over the lease term. As most of our leases do not provide an implicit rate, we generally use our incremental borrowing rate based on the estimated rate of interest for collateralized borrowing over a similar term of the lease payments at commencement date. The operating lease ROU asset also includes any lease payments made and excludes lease incentives. Our lease terms may include options to extend or terminate the lease when it is reasonably certain that we will exercise that option. Lease expense for lease payments is recognized on a straight-line basis over the lease term.

We have lease agreements with lease and non-lease components, which are generally accounted for separately. For certain equipment leases, such as vehicles, we account for the lease and non-lease components as a single lease component. Additionally, for certain equipment leases, we apply a portfolio approach to effectively account for the operating lease ROU assets and liabilities.

Goodwill

Goodwill is tested for impairment at the reporting unit level (operating segment or one level below an operating segment) on an annual basis (May 1 for us) and between annual tests if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying value.

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Intangible Assets

Our intangible assets are subject to amortization and are amortized using the straight-line method over their estimated period of benefit, ranging from one to 20 years. We evaluate the recoverability of intangible assets periodically by taking into account events or circumstances that may warrant revised estimates of useful lives or that indicate the asset may be impaired.

Recent Accounting Guidance

Recently Adopted Accounting Guidance

Financial Instruments – Targeted Improvements to Accounting for Hedging Activities

In August 2017, the Financial Accounting Standards Board (“FASB”) issued new guidance related to accounting for hedging activities. This guidance expands strategies that qualify for hedge accounting, changes how many hedging relationships are presented in the financial statements, and simplifies the application of hedge accounting in certain situations. We adopted the standard effective July 1, 2019. As we did not hold derivative instruments requiring an adjustment upon adoption, there was no impact in our consolidated financial statements. Adoption of the standard enhanced the presentation of the effects of our hedging instruments and the hedged items in our consolidated financial statements to increase the understandability of the results of our hedging strategies.

Recent Accounting Guidance Not Yet Adopted

Financial Instruments – Credit Losses

In June 2016, the FASB issued a new standard to replace the incurred loss impairment methodology under current GAAP with a methodology that reflects expected credit losses and requires consideration of a broader range of reasonable and supportable information to inform credit loss estimates. We will be required to use a forward-looking expected credit loss model for accounts receivable, loans, and other financial instruments. Credit losses relating to available-for-sale debt securities will also be recorded through an allowance for credit losses rather than as a reduction in the amortized cost basis of the securities. The standard will be adopted upon the effective date for us beginning July 1, 2020. Adoption of the standard will be applied using a modified retrospective approach through a cumulative-effect adjustment to retained earnings as of the effective date to align our credit loss methodology with the new standard. We have evaluated the impact of this standard in our consolidated financial statements, including accounting policies, processes, and systems. We continue to monitor economic implications of the COVID-19 pandemic. Based on current market conditions, adoption of the standard will not have a material impact on our consolidated financial statements.

Accounting for Income Taxes

In December 2019, the FASB issued a new standard to simplify the accounting for income taxes. The guidance eliminates certain exceptions related to the approach for intraperiod tax allocation, the methodology for calculating income taxes in an interim period, and the recognition of deferred tax liabilities for outside basis differences related to changes in ownership of equity method investments and foreign subsidiaries. The guidance also simplifies aspects of accounting for franchise taxes and enacted changes in tax laws or rates, and clarifies the accounting for transactions that result in a step-up in the tax basis of goodwill. The standard will be effective for us beginning July 1, 2021, with early adoption permitted. We are currently evaluating the impact of this standard in our consolidated financial statements, including accounting policies, processes, and systems.

 

NOTE 2 — EARNINGS PER SHARE

Basic earnings per share (“EPS”) is computed based on the weighted average number of shares of common stock outstanding during the period. Diluted EPS is computed based on the weighted average number of shares of common stock plus the effect of dilutive potential common shares outstanding during the period using the treasury stock method. Dilutive potential common shares include outstanding stock options and stock awards.

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The components of basic and diluted EPS were as follows:

 

(In millions, except earnings per share)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2020

 

 

2019

 

 

2018

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income available for common shareholders (A)

 

$

 44,281

 

 

$

 39,240

 

 

$

 16,571

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Weighted average outstanding shares of common stock (B)

 

 

7,610

 

 

 

7,673

 

 

 

7,700

 

Dilutive effect of stock-based awards

 

 

73

 

 

 

80

 

 

 

94

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Common stock and common stock equivalents (C)

 

 

7,683

 

 

 

 7,753

 

 

 

 7,794

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Earnings Per Share

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic (A/B)

 

$

5.82

 

 

$

5.11

 

 

$

2.15

 

Diluted (A/C)

 

$

5.76

 

 

$

5.06

 

 

$

2.13

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Anti-dilutive stock-based awards excluded from the calculations of diluted EPS were immaterial during the periods presented.

NOTE 3 — OTHER INCOME (EXPENSE), NET

The components of other income (expense), net were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2020

 

 

2019

 

 

2018

 

 

 

 

 

Interest and dividends income

 

$

2,680

 

 

$

2,762

 

 

$

2,214

 

Interest expense

 

 

 (2,591

)

 

 

 (2,686

)

 

 

 (2,733

)

Net recognized gains on investments

 

 

32

 

 

 

648

 

 

 

2,399

 

Net gains (losses) on derivatives

 

 

187

 

 

 

144

 

 

 

(187

)

Net losses on foreign currency remeasurements

 

 

(191

)

 

 

(82

)

 

 

(218

)

Other, net

 

 

(40

)

 

 

(57

)

 

 

(59

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

77

 

 

$

729

 

 

$

1,416

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net Recognized Gains (Losses) on Investments

Net recognized gains (losses) on debt investments were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2020

 

 

2019

 

 

2018

 

 

 

 

 

Realized gains from sales of available-for-sale securities

 

$

50

 

 

$

12

 

 

$

27

 

Realized losses from sales of available-for-sale securities

 

 

(37

)

 

 

(93

)

 

 

(987

)

Other-than-temporary impairments of investments

 

 

(17

)

 

 

(16

)

 

 

(6

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

(4

)

 

$

(97

)

 

$

 (966

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net recognized gains (losses) on equity investments were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2020

 

 

2019

 

 

2018

 

 

 

 

 

Net realized gains on investments sold

 

$

83

 

 

$

276

 

 

$

3,406

 

Net unrealized gains on investments still held

 

 

 69

 

 

 

 479

 

 

 

0

 

Impairments of investments

 

 

(116

)

 

 

(10

)

 

 

(41

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

 36

 

 

$

 745

 

 

$

 3,365

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

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PART II

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NOTE 4 — INVESTMENTS

Investment Components

The components of investments were as follows:

 

(In millions)

 

Fair Value Level

 

 

Cost Basis

 

 

Unrealized

Gains

 

 

Unrealized

Losses

 

 

Recorded

Basis

 

 

Cash

and Cash

Equivalents

 

Short-term

Investments

 

 

Equity

Investments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2020

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Changes in Fair Value Recorded in Other Comprehensive Income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial paper

 

 

Level 2

 

 

$

4,687

 

 

$

1

 

 

$

0

 

 

$

4,688

 

 

$

1,618

 

 

$

3,070

 

 

$

0

 

Certificates of deposit

 

 

Level 2

 

 

 

2,898

 

 

 

0

 

 

 

0

 

 

 

2,898

 

 

 

1,646

 

 

 

1,252

 

 

 

0

 

U.S. government securities

 

 

Level 1

 

 

 

92,067

 

 

 

6,495

 

 

 

(1

)

 

 

98,561

 

 

 

3,168

 

 

 

95,393

 

 

 

0

 

U.S. agency securities

 

 

Level 2

 

 

 

2,439

 

 

 

2

 

 

 

0

 

 

 

2,441

 

 

 

449

 

 

 

1,992

 

 

 

0

 

Foreign government bonds

 

 

Level 2

 

 

 

6,982

 

 

 

6

 

 

 

(3

)

 

 

6,985

 

 

 

1

 

 

 

6,984

 

 

 

0

 

Mortgage- and asset-backed securities

 

 

Level 2

 

 

 

4,865

 

 

 

41

 

 

 

(6

)

 

 

4,900

 

 

 

0

 

 

 

4,900

 

 

 

0

 

Corporate notes and bonds

 

 

Level 2

 

 

 

8,500

 

 

 

327

 

 

 

(17

)

 

 

8,810

 

 

 

0

 

 

 

8,810

 

 

 

0

 

Corporate notes and bonds

 

 

Level 3

 

 

 

58

 

 

 

0

 

 

 

0

 

 

 

58

 

 

 

0

 

 

 

58

 

 

 

0

 

Municipal securities

 

 

Level 2

 

 

 

313

 

 

 

57

 

 

 

(4

)

 

 

366

 

 

 

0

 

 

 

366

 

 

 

0

 

Municipal securities

 

 

Level 3

 

 

 

91

 

 

 

0

 

 

 

0

 

 

 

91

 

 

 

0

 

 

 

91

 

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total debt investments

 

 

 

 

 

$

122,900

 

 

$

6,929

 

 

$

(31

)

 

$

129,798

 

 

$

6,882

 

 

$

122,916

 

 

$

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Changes in Fair Value Recorded in Net Income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Equity investments

 

 

Level 1

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

1,198

 

 

$

784

 

 

$

0

 

 

$

414

 

Equity investments

 

 

Other

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2,551

 

 

 

0

 

 

 

0

 

 

 

2,551

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total equity investments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

3,749

 

 

$

784

 

 

$

0

 

 

$

2,965

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

5,910

 

 

$

5,910

 

 

$

0

 

 

$

0

 

Derivatives, net (a)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

35

 

 

 

0

 

 

 

35

 

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

139,492

 

 

$

13,576

 

 

$

122,951

 

 

$

2,965

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

69


PART II

Item 8

 

(In millions)

 

Fair Value Level

 

 

Cost Basis

 

 

Unrealized

Gains

 

 

Unrealized

Losses

 

 

Recorded

Basis

 

 

Cash

and Cash

Equivalents

 

 

Short-term

Investments

 

 

Equity

Investments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2019

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Changes in Fair Value Recorded in Other Comprehensive Income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial paper

 

 

Level 2

 

 

$

2,211

 

 

$

0

 

 

$

0

 

 

$

2,211

 

 

$

1,773

 

 

$

438

 

 

$

0

 

Certificates of deposit

 

 

Level 2

 

 

 

2,018

 

 

 

0

 

 

 

0

 

 

 

2,018

 

 

 

1,430

 

 

 

588

 

 

 

0

 

U.S. government securities

 

 

Level 1

 

 

 

104,925

 

 

 

1,854

 

 

 

(104

)

 

 

106,675

 

 

 

769

 

 

 

105,906

 

 

 

0

 

U.S. agency securities

 

 

Level 2

 

 

 

988

 

 

 

0

 

 

 

0

 

 

 

988

 

 

 

698

 

 

 

290

 

 

 

0

 

Foreign government bonds

 

 

Level 2

 

 

 

6,350

 

 

 

4

 

 

 

(8

)

 

 

6,346

 

 

 

2,506

 

 

 

3,840

 

 

 

0

 

Mortgage- and asset-backed securities

 

 

Level 2

 

 

 

3,554

 

 

 

10

 

 

 

(3

)

 

 

3,561

 

 

 

0

 

 

 

3,561

 

 

 

0

 

Corporate notes and bonds

 

 

Level 2

 

 

 

7,437

 

 

 

111

 

 

 

(7

)

 

 

7,541

 

 

 

0

 

 

 

7,541

 

 

 

0

 

Corporate notes and bonds

 

 

Level 3

 

 

 

15

 

 

 

0

 

 

 

0

 

 

 

15

 

 

 

0

 

 

 

15

 

 

 

0

 

Municipal securities

 

 

Level 2

 

 

 

242

 

 

 

48

 

 

 

0

 

 

 

290

 

 

 

0

 

 

 

290

 

 

 

0

 

Municipal securities

 

 

Level 3

 

 

 

7

 

 

 

0

 

 

 

0

 

 

 

7

 

 

 

0

 

 

 

7

 

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total debt investments

 

 

 

 

 

$

127,747

 

 

$

2,027

 

 

$

(122

)

 

$

129,652

 

 

$

7,176

 

 

$

122,476

 

 

$

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Changes in Fair Value Recorded in Net Income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Equity investments

 

 

Level 1

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

973

 

 

$

409

 

 

$

0

 

 

$

564

 

Equity investments

 

 

Other

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2,085

 

 

 

0

 

 

 

0

 

 

 

2,085

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total equity investments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

3,058

 

 

$

409

 

 

$

0

 

 

$

2,649

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

3,771

 

 

$

3,771

 

 

$

0

 

 

$

0

 

Derivatives, net (a)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(13)

 

 

 

0

 

 

 

(13)

 

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

136,468

 

 

$

11,356

 

 

$

122,463

 

 

$

2,649

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(a)

Refer to Note 5 – Derivatives for further information on the fair value of our derivative instruments.

 

Equity investments presented as “Other” in the tables above include investments without readily determinable fair values measured using the equity method or measured at cost with adjustments for observable changes in price or impairments, and investments measured at fair value using net asset value as a practical expedient which are not categorized in the fair value hierarchy. As of June 30, 2020 and 2019, equity investments without readily determinable fair values measured at cost with adjustments for observable changes in price or impairments were $1.4 billion and $1.2 billion, respectively.

Unrealized Losses on Debt Investments

Debt investments with continuous unrealized losses for less than 12 months and 12 months or greater and their related fair values were as follows:

 

 

 

Less than 12 Months

 

 

12 Months or Greater

 

 

 

 

 

Total
Unrealized
Losses

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(In millions)

 

Fair Value

 

 

Unrealized
Losses

 

 

Fair Value

 

 

Unrealized
Losses

 

 

Total
Fair Value

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2020

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. government and agency securities

 

$

2,323

 

 

$

(1

)

 

$

0

 

 

$

0

 

 

$

2,323

 

 

$

(1

)

Foreign government bonds

 

 

500

 

 

 

(3

)

 

 

0

 

 

 

0

 

 

 

500

 

 

 

(3

)

Mortgage- and asset-backed securities

 

 

1,014

 

 

 

(6

)

 

 

0

 

 

 

0

 

 

 

1,014

 

 

 

(6

)

Corporate notes and bonds

 

 

649

 

 

 

(17

)

 

 

0

 

 

 

0

 

 

 

649

 

 

 

(17

)

Municipal securities

 

 

66

 

 

 

(4

)

 

 

0

 

 

 

0

 

 

 

66

 

 

 

(4

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

4,552

 

 

$

(31

)

 

$

0

 

 

$

0

 

 

$

4,552

 

 

$

(31

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

70


PART II

Item 8

 

 

 

Less than 12 Months

 

 

12 Months or Greater

 

 

 

 

 

 

Total

Unrealized

Losses

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(In millions)

 

Fair Value

 

 

Unrealized

Losses

 

 

Fair Value

 

 

Unrealized

Losses

 

 

Total

Fair Value

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2019

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. government and agency securities

 

$

1,491

 

 

$

(1

)

 

$

39,158

 

 

$

(103

)

 

$

40,649

 

 

$

(104

)

Foreign government bonds

 

 

25

 

 

 

0

 

 

 

77

 

 

 

(8

)

 

 

102

 

 

 

(8

)

Mortgage- and asset-backed securities

 

 

664

 

 

 

(1

)

 

 

378

 

 

 

(2

)

 

 

1,042

 

 

 

(3

)

Corporate notes and bonds

 

 

498

 

 

 

(3

)

 

 

376

 

 

 

(4

)

 

 

874

 

 

 

(7

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

2,678

 

 

$

(5

)

 

$

39,989

 

 

$

(117

)

 

$

42,667

 

 

$

(122

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Unrealized losses from fixed-income securities are primarily attributable to changes in interest rates. Management does not believe any remaining unrealized losses represent other-than-temporary impairments based on our evaluation of available evidence.

Debt Investment Maturities

 

(In millions)

 

Cost Basis

 

 

Estimated

Fair Value

 

 

 

 

 

 

 

June 30, 2020

 

 

 

 

 

 

 

 

 

 

 

Due in one year or less

 

$

36,169

 

 

$

36,276

 

Due after one year through five years

 

 

51,465

 

 

 

54,700

 

Due after five years through 10 years

 

 

32,299

 

 

 

35,674

 

Due after 10 years

 

 

2,967

 

 

 

3,148

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

122,900

 

 

$

129,798

 

 

 

 

 

 

 

 

 

 

 

NOTE 5 — DERIVATIVES

We use derivative instruments to manage risks related to foreign currencies, interest rates, equity prices, and credit; to enhance investment returns; and to facilitate portfolio diversification. Our objectives for holding derivatives include reducing, eliminating, and efficiently managing the economic impact of these exposures as effectively as possible. Our derivative programs include strategies that both qualify and do not qualify for hedge accounting treatment.

Foreign Currencies

Certain forecasted transactions, assets, and liabilities are exposed to foreign currency risk. We monitor our foreign currency exposures daily to maximize the economic effectiveness of our foreign currency hedge positions.

Foreign currency risks related to certain non-U.S. dollar-denominated investments are hedged using foreign exchange forward contracts that are designated as fair value hedging instruments. Foreign currency risks related to certain Euro-denominated debt are hedged using foreign exchange forward contracts that are designated as cash flow hedging instruments.

In the past, option and forward contracts were used to hedge a portion of forecasted international revenue and were designated as cash flow hedging instruments. Principal currencies hedged included the Euro, Japanese yen, British pound, Canadian dollar, and Australian dollar.

Certain options and forwards not designated as hedging instruments are also used to manage the variability in foreign exchange rates on certain balance sheet amounts and to manage other foreign currency exposures.

71


PART II

Item 8

 

Interest Rate

Interest rate risks related to certain fixed-rate debt are hedged using interest rate swaps that are designated as fair value hedging instruments to effectively convert the fixed interest rates to floating interest rates.

Securities held in our fixed-income portfolio are subject to different interest rate risks based on their maturities. We manage the average maturity of our fixed-income portfolio to achieve economic returns that correlate to certain broad-based fixed-income indices using exchange-traded option and futures contracts and over-the-counter swap and option contracts. These contracts are not designated as hedging instruments and are included in “Other contracts” in the tables below.

Equity

Securities held in our equity investments portfolio are subject to market price risk. At times, we may hold options, futures, and swap contracts. These contracts are not designated as hedging instruments and are included in “Other contracts” in the tables below.

Credit

Our fixed-income portfolio is diversified and consists primarily of investment-grade securities. We use credit default swap contracts to manage credit exposures relative to broad-based indices and to facilitate portfolio diversification. These contracts are not designated as hedging instruments and are included in “Other contracts” in the tables below.

Credit-Risk-Related Contingent Features

Certain of our counterparty agreements for derivative instruments contain provisions that require our issued and outstanding long-term unsecured debt to maintain an investment grade credit rating and require us to maintain minimum liquidity of $1.0 billion. To the extent we fail to meet these requirements, we will be required to post collateral, similar to the standard convention related to over-the-counter derivatives. As of June 30, 2020, our long-term unsecured debt rating was AAA, and cash investments were in excess of $1.0 billion. As a result, no collateral was required to be posted.

The following table presents the notional amounts of our outstanding derivative instruments measured in U.S. dollar equivalents:

 

(In millions)

 

June 30,

2020

 

 

June 30,

2019

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Designated as Hedging Instruments

 

 

 

 

 

 

 

 

 

 

 

Foreign exchange contracts purchased

 

$

635

 

 

$

0

 

Foreign exchange contracts sold

 

 

6,754

 

 

 

6,034

 

Interest rate contracts purchased

 

 

1,295

 

 

 

0

 

 

 

 

Not Designated as Hedging Instruments

 

 

 

 

 

 

 

 

 

 

 

Foreign exchange contracts purchased

 

 

11,896

 

 

 

14,889

 

Foreign exchange contracts sold

 

 

15,595

 

 

 

15,614

 

Other contracts purchased

 

 

1,844

 

 

 

2,007

 

Other contracts sold

 

 

757

 

 

 

456

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

72


PART II

Item 8

 

Fair Values of Derivative Instruments

The following table presents our derivative instruments:

 

 

 

Derivative

 

Derivative

 

Derivative

 

Derivative

 

(In millions)

 

Assets

 

Liabilities

 

Assets

 

Liabilities

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30,

2020

 

June 30,

2019

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Designated as Hedging Instruments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Foreign exchange contracts

 

$

44

 

 

$

(54

)

 

$

0

 

 

$

(93

)

Interest rate contracts

 

 

93

 

 

 

0

 

 

 

0

 

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Not Designated as Hedging Instruments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Foreign exchange contracts

 

 

245

 

 

 

(334

)

 

 

204

 

 

 

(172

)

Other contracts

 

 

18

 

 

 

(11

)

 

 

46

 

 

 

(7

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross amounts of derivatives

 

 

400

 

 

 

(399

)

 

 

250

 

 

 

(272

)

Gross amounts of derivatives offset in the balance sheet

 

 

(154

)

 

 

158

 

 

 

(113

)

 

 

114

 

Cash collateral received

 

 

0

 

 

 

(154

)

 

 

0

 

 

 

(78

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net amounts of derivatives

 

$

246

 

 

$

(395

)

 

$

137

 

 

$

(236

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Reported as

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Short-term investments

 

$

35

 

 

$

0

 

 

$

(13

)

 

$

0

 

Other current assets

 

 

199

 

 

 

0

 

 

 

146

 

 

 

0

 

Other long-term assets

 

 

12

 

 

 

0

 

 

 

4

 

 

 

0

 

Other current liabilities

 

 

0

 

 

 

(334

)

 

 

0

 

 

 

(221

)

Other long-term liabilities

 

 

0

 

 

 

(61

)

 

 

0

 

 

 

(15

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

246

 

 

$

(395

)

 

$

137

 

 

$

(236

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross derivative assets and liabilities subject to legally enforceable master netting agreements for which we have elected to offset were $399 million and $399 million, respectively, as of June 30, 2020, and $247 million and $272 million, respectively, as of June 30, 2019.

The following table presents the fair value of our derivatives instruments on a gross basis:

 

(In millions)

 

Level 1

 

 

 

Level 2

 

 

Level 3

 

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2020

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Derivative assets

 

$

1

 

 

$

398

 

 

$

1

 

 

$

400

 

Derivative liabilities

 

 

0

 

 

 

(399

)

 

 

0

 

 

 

(399

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2019

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Derivative assets

 

 

0

 

 

 

247

 

 

 

3

 

 

 

250

 

Derivative liabilities

 

 

0

 

 

 

(272

)

 

 

0

 

 

 

(272

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

73


PART II

Item 8

 

Gains (losses) on derivative instruments recognized in our consolidated income statements were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2020

 

2019

2018

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Revenue

 

 

Other
Income

(Expense),
Net

 

 

Revenue

 

 

Other
Income

(Expense),
Net

 

 

Revenue

 

 

Other

Income

(Expense),

Net

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Designated as Fair Value Hedging Instruments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Foreign exchange contracts

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Derivatives

 

$

0

 

 

$

1

 

 

$

0

 

 

$

(130

)

 

$

0

 

 

$

(78

)

Hedged items

 

 

0

 

 

 

3

 

 

 

0

 

 

 

130

 

 

 

0

 

 

 

78

 

Excluded from effectiveness assessment

 

 

0

 

 

 

139

 

 

 

0

 

 

 

168

 

 

 

0

 

 

 

103

 

Interest rate contracts

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Derivatives

 

 

0

 

 

 

93

 

 

 

0

 

 

 

0

 

 

 

0

 

 

 

0

 

Hedged items

 

 

0

 

 

 

(93

)

 

 

0

 

 

 

0

 

 

 

0

 

 

 

0

 

Equity contracts

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Derivatives

 

 

0

 

 

 

0

 

 

 

0

 

 

 

0

 

 

 

0

 

 

 

(324

)

Hedged items

 

 

0

 

 

 

0

 

 

 

0

 

 

 

0

 

 

 

0

 

 

 

324

 

Excluded from effectiveness assessment

 

 

0

 

 

 

0

 

 

 

0

 

 

 

0

 

 

 

0

 

 

 

80

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Designated as Cash Flow Hedging Instruments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Foreign exchange contracts

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Amount reclassified from accumulated other comprehensive income

 

 

0

 

 

 

0

 

 

 

341

 

 

 

0

 

 

 

185

 

 

 

0

 

Excluded from effectiveness assessment

 

 

0

 

 

 

0

 

 

 

(64

)

 

 

0

 

 

 

(255

)

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Not Designated as Hedging Instruments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Foreign exchange contracts

 

 

0

 

 

 

(123

)

 

 

0

 

 

 

(97

)

 

 

0

 

 

 

(33

)

Other contracts

 

 

0

 

 

 

50

 

 

 

0

 

 

 

38

 

 

 

0

 

 

 

(104

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gains (losses), net of tax, on derivative instruments recognized in our consolidated comprehensive income statements were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2020

 

 

2019

 

 

2018

 

 

 

 

 

Designated as Cash Flow Hedging Instruments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Foreign exchange contracts

 

 

 

 

 

 

 

 

 

 

 

 

Included in effectiveness assessment

 

$

(38

)

 

$

159

 

 

$

219

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

NOTE 6 INVENTORIES

The components of inventories were as follows:

 

(In millions)

 

 

 

 

 

 

 

June 30,

 

2020

 

 

2019

 

 

 

 

Raw materials

 

$

700

 

 

$

399

 

Work in process

 

 

83

 

 

 

53

 

Finished goods

 

 

1,112

 

 

 

1,611

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

1,895

 

 

$

2,063

 

 

 

 

 

 

 

 

 

 

 

74


PART II

Item 8

 

NOTE 7 — PROPERTY AND EQUIPMENT

The components of property and equipment were as follows:

 

(In millions)

 

 

 

 

 

 

 

June 30,

 

2020

 

 

2019

 

 

 

 

Land

 

$

1,823

 

 

$

1,540

 

Buildings and improvements

 

 

33,995

 

 

 

26,288

 

Leasehold improvements

 

 

5,487

 

 

 

5,316

 

Computer equipment and software

 

 

41,261

 

 

 

33,823

 

Furniture and equipment

 

 

4,782

 

 

 

4,840

 

 

 

 

 

 

 

 

 

 

 

 

 

Total, at cost

 

 

87,348

 

 

 

71,807

 

Accumulated depreciation

 

 

(43,197

)

 

 

(35,330

)

 

 

 

 

 

 

 

 

 

 

 

 

Total, net

 

$

 44,151

 

 

$

 36,477

 

 

 

 

 

 

 

 

 

 

 

During fiscal years 2020, 2019, and 2018, depreciation expense was $10.7 billion, $9.7 billion, and $7.7 billion, respectively. We have committed $5.0 billion for the construction of new buildings, building improvements, and leasehold improvements as of June 30, 2020.

During fiscal year 2020, we recorded an impairment charge of $186 million to Property and Equipment, primarily to leasehold improvements, due to the closing of our Microsoft Store physical locations.

NOTE 8 — BUSINESS COMBINATIONS

GitHub, Inc.

On October 25, 2018, we acquired GitHub, Inc. (“GitHub”), a software development platform, in a $7.5 billion stock transaction (inclusive of total cash payments of $1.3 billion in respect of vested GitHub equity awards and an indemnity escrow). The acquisition is expected to empower developers to achieve more at every stage of the development lifecycle, accelerate enterprise use of GitHub, and bring Microsoft’s developer tools and services to new audiences. The financial results of GitHub have been included in our consolidated financial statements since the date of the acquisition. GitHub is reported as part of our Intelligent Cloud segment.

The allocation of the purchase price to goodwill was completed as of June 30, 2019. The major classes of assets and liabilities to which we allocated the purchase price were as follows: 

 

(In millions)

 

 

 

 

 

 

 

 

 

Cash, cash equivalents, and short-term investments

 

$

234

 

Goodwill

 

 

5,497

 

Intangible assets

 

 

1,267

 

Other assets

 

 

143

 

Other liabilities

 

 

(217

)

 

 

 

 

 

 

 

 

 

 

Total

 

$

 6,924

 

 

 

 

 

 

The goodwill recognized in connection with the acquisition is primarily attributable to anticipated synergies from future growth and is not expected to be deductible for tax purposes. We assigned the goodwill to our Intelligent Cloud segment.

75


PART II

Item 8

 

Following are the details of the purchase price allocated to the intangible assets acquired:

 

(In millions)

 

Amount

 

 

Weighted

Average Life

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Customer-related

 

$

648

 

 

 

8 years

 

Technology-based

 

 

447

 

 

 

5 years

 

Marketing-related

 

 

170

 

 

 

10 years

 

Contract-based

 

 

2

 

 

 

2 years

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

1,267

 

 

 

7 years

 

 

 

 

 

 

 

 

 

Transactions recognized separately from the purchase price allocation were approximately $600 million, primarily related to equity awards recognized as expense over the related service period.

 

Other

During fiscal year 2020, we completed 15 acquisitions for $2.4 billion, substantially all of which were paid in cash. These entities have been included in our consolidated results of operations since their respective acquisition dates. The effects of these business combinations, individually and in aggregate, were not material to our consolidated results of operations.

NOTE 9 — GOODWILL

Changes in the carrying amount of goodwill were as follows:

 

(In millions)

 

 

June 30,

2018

 

 

 

Acquisitions

 

 

 

Other

 

 

 

June 30,

2019

 

 

 

Acquisitions

 

 

 

Other

 

 

 

June 30,
2020

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Productivity and Business Processes

 

$

23,823

 

 

$

514

 

 

$

(60

)

 

$

24,277

 

 

$

7

 

 

$

(94

)

 

$

24,190

 

Intelligent Cloud

 

 

5,703

 

 

 

5,605

(a)

 

 

43

(a)

 

 

11,351

 

 

 

1,351

 

 

 

(5

)

 

 

12,697

 

More Personal Computing

 

 

6,157

 

 

 

289

 

 

 

(48

)

 

 

6,398

 

 

 

96

 

 

 

(30

)

 

 

6,464

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

 35,683

 

 

$

 6,408

 

 

$

(65

)

 

$

 42,026

 

 

$

1,454

 

 

$

 (129

)

 

$

 43,351

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(a)

Includes goodwill of $5.5 billion related to GitHub. See Note 8 – Business Combinations for further information.

The measurement periods for the valuation of assets acquired and liabilities assumed end as soon as information on the facts and circumstances that existed as of the acquisition dates becomes available, but do not exceed 12 months. Adjustments in purchase price allocations may require a change in the amounts allocated to goodwill during the periods in which the adjustments are determined.

Any change in the goodwill amounts resulting from foreign currency translations and purchase accounting adjustments are presented as “Other” in the table above. Also included in “Other” are business dispositions and transfers between segments due to reorganizations, as applicable.

Goodwill Impairment

We test goodwill for impairment annually on May 1 at the reporting unit level, primarily using a discounted cash flow methodology with a peer-based, risk-adjusted weighted average cost of capital. We believe use of a discounted cash flow approach is the most reliable indicator of the fair values of the businesses.

No instances of impairment were identified in our May 1, 2020, May 1, 2019, or May 1, 2018 tests. As of June 30, 2020 and 2019, accumulated goodwill impairment was $11.3 billion.

76


PART II

Item 8

 

NOTE 10 INTANGIBLE ASSETS

The components of intangible assets, all of which are finite-lived, were as follows:

 

(In millions)

 

Gross
Carrying
Amount

 

 

Accumulated
Amortization

 

 

Net Carrying
Amount

 

 

Gross
Carrying
Amount

 

 

Accumulated
Amortization

 

 

Net Carrying
Amount

 

 

 

 

 

 

 

 

 

 

 

June 30,

 

 

 

 

 

 

 

2020

 

 

 

 

 

 

 

 

2019

 

 

 

 

 

 

 

 

Technology-based

 

$

8,160

 

 

$

(6,381

)

 

$

1,779

 

 

$

7,691

 

 

$

(5,771

)

 

$

1,920

 

Customer-related

 

 

4,967

 

 

 

(2,320

)

 

 

2,647

 

 

 

4,709

 

 

 

(1,785

)

 

 

2,924

 

Marketing-related

 

 

4,158

 

 

 

(1,588

)

 

 

2,570

 

 

 

4,165

 

 

 

(1,327

)

 

 

2,838

 

Contract-based

 

 

474

 

 

 

(432

)

 

 

42

 

 

 

574

 

 

 

(506

)

 

 

68

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

 17,759

 

 

$

 (10,721

)

 

$

7,038

 

 

$

 17,139

(a) 

 

$

 (9,389

)

 

$

7,750

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(a)

Includes intangible assets of $1.3 billion related to GitHub. See Note 8 – Business Combinations for further information. 

No material impairments of intangible assets were identified during fiscal years 2020, 2019, or 2018. We estimate that we have no significant residual value related to our intangible assets.

The components of intangible assets acquired during the periods presented were as follows:

 

(In millions)

 

Amount

 

 

Weighted

Average Life

 

 

Amount

 

 

Weighted

Average Life

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2020

 

 

 

 

 

2019

 

 

 

 

 

 

 

 

 

Technology-based

 

$

531

 

 

 

6 years

 

 

$

814

 

 

 

5 years

 

Customer-related

 

 

303

 

 

 

5 years

 

 

 

710

 

 

 

8 years

 

Marketing-related

 

 

2

 

 

 

2 years

 

 

 

177

 

 

 

10 years

 

Contract-based

 

 

0

 

 

 

0 years

 

 

 

7

 

 

 

3 years

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

 836

 

 

 

5 years

 

 

$

1,708

 

 

 

7 years

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Intangible assets amortization expense was $1.6 billion, $1.9 billion, and $2.2 billion for fiscal years 2020, 2019, and 2018, respectively.

The following table outlines the estimated future amortization expense related to intangible assets held as of June 30, 2020:

 

(In millions)

 

 

 

 

 

 

 

 

Year Ending June 30,

 

 

 

 

 

 

2021

 

$

1,483

 

2022

 

 

1,399

 

2023

 

 

1,219

 

2024

 

 

851

 

2025

 

 

447

 

Thereafter

 

 

1,639

 

 

 

 

 

 

 

 

Total

 

$

7,038

 

 

 

 

 

 

 

77


PART II

Item 8

 

NOTE 11 — DEBT

The components of debt were as follows:

 

(In millions, issuance by calendar year)

 

Maturities

(calendar year)

 

Stated Interest

Rate

 

 

Effective Interest

Rate

 

June 30,

2020

 

 

June 30,

2019

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2009 issuance of $3.8 billion (a)

 

 

 

 

2039

 

 

 

 

5.20%

 

 

 

 

5.24%

 

 

$

559

 

 

$

750

 

2010 issuance of $4.8 billion (a)

 

 

2020

2040

 

 

3.00%

4.50%

 

 

3.14%

4.57%

 

 

 

1,571

 

 

 

2,000

 

2011 issuance of $2.3 billion (a)

 

 

2021

2041

 

 

4.00%

5.30%

 

 

4.08%

5.36%

 

 

 

1,270

 

 

 

1,500

 

2012 issuance of $2.3 billion

 

 

2022

2042

 

 

2.13%

3.50%

 

 

2.24%

3.57%

 

 

 

1,650

 

 

 

1,650

 

2013 issuance of $5.2 billion (a)

 

 

2023

2043

 

 

2.38%

4.88%

 

 

2.47%

4.92%

 

 

 

2,919

 

 

 

3,500

 

2013 issuance of €4.1 billion

 

 

2021

2033

 

 

2.13%

3.13%

 

 

2.23%

3.22%

 

 

 

4,549

 

 

 

4,613

 

2014 issuance

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

0

 

 

 

18

 

2015 issuance of $23.8 billion (a)

 

 

2020

2055

 

 

2.00%

4.75%

 

 

2.09%

4.78%

 

 

 

15,549

 

 

 

22,000

 

2016 issuance of $19.8 billion (a)

 

 

2021

2056

 

 

1.55%

3.95%

 

 

1.64%

4.03%

 

 

 

16,955

 

 

 

19,750

 

2017 issuance of $17.0 billion (a)

 

 

2022

2057

 

 

2.40%

4.50%

 

 

2.52%

4.53%

 

 

 

12,385

 

 

 

17,000

 

2020 issuance of $10.0 billion (a)

 

 

2050

2060

 

 

2.53%

2.68%

 

 

2.53%

2.68%

 

 

 

10,000

 

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total face value

 

 

 

 

 

 

 

 

 

 

 

 

67,407

 

 

 

72,781

 

Unamortized discount and issuance costs

 

 

 

 

 

 

 

 

 

 

 

 

(554

)

 

 

(603

)

Hedge fair value adjustments (b)

 

 

 

 

 

 

 

 

 

 

 

 

93

 

 

 

0

 

Premium on debt exchange (a)

 

 

 

 

 

 

 

 

 

 

 

 

(3,619

)

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total debt

 

 

 

 

 

 

 

 

 

 

 

 

63,327

 

 

 

72,178

 

Current portion of long-term debt

 

 

 

 

 

 

 

 

 

 

 

 

(3,749

)

 

 

(5,516

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Long-term debt

 

 

 

 

 

 

 

 

 

 

 

$

59,578

 

 

$

66,662

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(a)

In June 2020, we exchanged a portion of our existing debt at premium for cash and new debt with longer maturities. The premium will be amortized over the term of the new debt.

(b)

Refer to Note 5 – Derivatives for further information on the interest rate swaps related to fixed-rate debt.

As of June 30, 2020 and 2019, the estimated fair value of long-term debt, including the current portion, was $77.1 billion and $78.9 billion, respectively. The estimated fair values are based on Level 2 inputs.

Debt in the table above is comprised of senior unsecured obligations and ranks equally with our other outstanding obligations. Interest is paid semi-annually, except for the Euro-denominated debt, which is paid annually.

The following table outlines maturities of our long-term debt, including the current portion, as of June 30, 2020:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ending June 30,

 

 

 

 

 

 

 

 

 

2021

 

$

3,750

 

2022

 

 

7,966

 

2023

 

 

2,750

 

2024

 

 

5,250

 

2025

 

 

2,250

 

Thereafter

 

 

45,441

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

67,407

 

 

 

 

 

 

 

78


PART II

Item 8

 

NOTE 12 — INCOME TAXES

Tax Cuts and Jobs Act

On December 22, 2017, the Tax Cuts and Jobs Act (“TCJA”) was enacted into law, which significantly changed existing U.S. tax law and included numerous provisions that affect our business. We recorded a provisional net charge of $13.7 billion related to the enactment of the TCJA in fiscal year 2018, and adjusted the provisional net charge by recording additional tax expense of $157 million in fiscal year 2019 pursuant to Securities and Exchange Commission Staff Accounting Bulletin No. 118.

In fiscal year 2019, in response to the TCJA and recently issued regulations, we transferred certain intangible properties held by our foreign subsidiaries to the U.S. and Ireland. The transfers of intangible properties resulted in a $2.6 billion net income tax benefit recorded in the fourth quarter of fiscal year 2019, as the value of future tax deductions exceeded the current tax liability from foreign jurisdictions and U.S. global intangible low-taxed income (“GILTI”) tax.

Provision for Income Taxes

The components of the provision for income taxes were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2020

 

 

2019

 

 

2018

 

 

 

 

 

Current Taxes

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. federal

 

$

3,537

 

 

$

4,718

 

 

$

19,764

 

U.S. state and local

 

 

763

 

 

 

662

 

 

 

934

 

Foreign

 

 

4,444

 

 

 

5,531

 

 

 

4,348

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Current taxes

 

$

8,744

 

 

$

10,911

 

 

$

25,046

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deferred Taxes

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. federal

 

$

58

 

 

$

(5,647

)

 

$

(4,292

)

U.S. state and local

 

 

(6

)

 

 

(1,010

)

 

 

(458

)

Foreign

 

 

(41

)

 

 

194

 

 

 

(393

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deferred taxes

 

$

11

 

 

$

(6,463

)

 

$

(5,143

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Provision for income taxes

 

$

 8,755

 

 

$

 4,448

 

 

$

 19,903

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. and foreign components of income before income taxes were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2020

 

 

2019

 

 

2018

 

 

 

 

 

U.S.

 

$

24,116

 

 

$

15,799

 

 

$

11,527

 

Foreign

 

 

28,920

 

 

 

27,889

 

 

 

24,947

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Income before income taxes

 

$

 53,036

 

 

$

 43,688

 

 

$

36,474

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

79


PART II

Item 8

 

Effective Tax Rate

The items accounting for the difference between income taxes computed at the U.S. federal statutory rate and our effective rate were as follows:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2020

 

 

2019

 

 

2018

 

 

 

 

 

Federal statutory rate

 

 

21.0%

 

 

 

21.0%

 

 

 

28.1%

 

Effect of:

 

 

 

 

 

 

 

 

 

 

 

 

Foreign earnings taxed at lower rates

 

 

(3.7)%

 

 

 

(4.1)%

 

 

 

(7.8)%

 

Impact of the enactment of the TCJA

 

 

0%

 

 

 

0.4%

 

 

 

37.7%

 

Impact of intangible property transfers

 

 

0%

 

 

 

(5.9)%

 

 

 

0%

 

Foreign-derived intangible income deduction

 

 

(1.1)%

 

 

 

(1.4)%

 

 

 

0%

 

State income taxes, net of federal benefit

 

 

1.3%

 

 

 

0.7%

 

 

 

1.3%

 

Research and development credit

 

 

(1.1)%

 

 

 

(1.1)%

 

 

 

(1.3)%

 

Excess tax benefits relating to stock-based compensation

 

 

(2.2)%

 

 

 

(2.2)%

 

 

 

(2.5)%

 

Interest, net

 

 

1.0%

 

 

 

1.0%

 

 

 

1.2%

 

Other reconciling items, net

 

 

1.3%

 

 

 

1.8%

 

 

 

(2.1)%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Effective rate

 

 

16.5%

 

 

 

10.2%

 

 

 

54.6%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

The decrease from the federal statutory rate in fiscal year 2020 is primarily due to earnings taxed at lower rates in foreign jurisdictions resulting from producing and distributing our products and services through our foreign regional operations centers in Ireland and Puerto Rico, and tax benefits relating to stock-based compensation. The decrease from the federal statutory rate in fiscal year 2019 is primarily due to a $2.6 billion net income tax benefit related to intangible property transfers, and earnings taxed at lower rates in foreign jurisdictions resulting from producing and distributing our products and services through our foreign regional operations centers in Ireland, Singapore, and Puerto Rico. The increase from the federal statutory rate in fiscal year 2018 is primarily due to the net charge related to the enactment of the TCJA in the second quarter of fiscal year 2018, offset in part by earnings taxed at lower rates in foreign jurisdictions. In fiscal year 2020, our foreign regional operating centers in Ireland and Puerto Rico, which are taxed at rates lower than the U.S. rate, generated 86% of our foreign income before tax. In fiscal years 2019 and 2018, our foreign regional operating centers in Ireland, Singapore, and Puerto Rico, which are taxed at rates lower than the U.S. rate, generated 82% and 87% of our foreign income before tax, respectively. Other reconciling items, net consists primarily of tax credits and GILTI tax. In fiscal years 2020, 2019, and 2018, there were no individually significant other reconciling items.

 

The increase in our effective tax rate for fiscal year 2020 compared to fiscal year 2019 was primarily due to a $2.6 billion net income tax benefit in the fourth quarter of fiscal year 2019 related to intangible property transfers. The decrease in our effective tax rate for fiscal year 2019 compared to fiscal year 2018 was primarily due to the net charge related to the enactment of the TCJA in the second quarter of fiscal year 2018, and a $2.6 billion net income tax benefit in the fourth quarter of fiscal year 2019 related to intangible property transfers.

80


PART II

Item 8

 

The components of the deferred income tax assets and liabilities were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30,

 

2020

 

 

2019

 

 

 

 

Deferred Income Tax Assets

 

 

 

 

 

 

 

 

 

 

 

Stock-based compensation expense

 

$

461

 

 

$

406

 

Accruals, reserves, and other expenses

 

 

2,721

 

 

 

2,287

 

Loss and credit carryforwards

 

 

865

 

 

 

3,518

 

Depreciation and amortization

 

 

6,361

 

 

 

7,046

 

Leasing liabilities

 

 

3,025

 

 

 

1,594

 

Unearned revenue

 

 

1,553

 

 

 

475

 

Other

 

 

354

 

 

 

367

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deferred income tax assets

 

 

15,340

 

 

 

15,693

 

Less valuation allowance

 

 

 (755

)

 

 

 (3,214

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deferred income tax assets, net of valuation allowance

 

$

14,585

 

 

$

12,479

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deferred Income Tax Liabilities

 

 

 

 

 

 

 

 

 

 

 

Book/tax basis differences in investments and debt

 

$

(2,642

)

 

$

(738

)

Unearned revenue

 

 

0

 

 

 

(30

)

Leasing assets

 

 

(2,817

)

 

 

(1,510

)

Deferred GILTI tax liabilities

 

 

(2,581

)

 

 

(2,607

)

Other

 

 

(344

)

 

 

(291

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deferred income tax liabilities

 

$

(8,384

)

 

$

(5,176

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net deferred income tax assets

 

$

6,201

 

 

$

7,303

 

 

 

 

 

 

 

 

 

 

 

 

 

Reported As

 

 

 

 

 

 

 

 

 

 

 

Other long-term assets

 

$

6,405

 

 

$

7,536

 

Long-term deferred income tax liabilities

 

 

(204

)

 

 

(233

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net deferred income tax assets

 

$

6,201

 

 

$

7,303

 

 

 

 

 

 

 

 

 

 

 

Deferred income tax balances reflect the effects of temporary differences between the carrying amounts of assets and liabilities and their tax bases and are stated at enacted tax rates expected to be in effect when the taxes are paid or recovered.

As of June 30, 2020, we had federal, state, and foreign net operating loss carryforwards of $547 million, $975 million, and $2.0 billion, respectively. The federal and state net operating loss carryforwards will expire in various years from fiscal 2021 through 2040, if not utilized. The majority of our foreign net operating loss carryforwards do not expire. Certain acquired net operating loss carryforwards are subject to an annual limitation, but are expected to be realized with the exception of those which have a valuation allowance.

The valuation allowance disclosed in the table above relates to the foreign net operating loss carryforwards and other net deferred tax assets that may not be realized. In fiscal year 2020, we removed $2.0 billion of foreign net operating losses and corresponding valuation allowances as a result of the liquidation of a foreign subsidiary. There was no impact to our consolidated financial statements.

Income taxes paid, net of refunds, were $12.5 billion, $8.4 billion, and $5.5 billion in fiscal years 2020, 2019, and 2018, respectively.

Uncertain Tax Positions

Gross unrecognized tax benefits related to uncertain tax positions as of June 30, 2020, 2019, and 2018, were $13.8 billion, $13.1 billion, and $12.0 billion, respectively, which were primarily included in long-term income taxes in our consolidated balance sheets. If recognized, the resulting tax benefit would affect our effective tax rates for fiscal years 2020, 2019, and 2018 by $12.1 billion, $12.0 billion, and $11.3 billion, respectively.

81


PART II

Item 8

 

As of June 30, 2020, 2019, and 2018, we had accrued interest expense related to uncertain tax positions of $4.0 billion, $3.4 billion, and $3.0 billion, respectively, net of income tax benefits. The provision for income taxes for fiscal years 2020, 2019, and 2018 included interest expense related to uncertain tax positions of $579 million, $515 million, and $688 million, respectively, net of income tax benefits.

The aggregate changes in the gross unrecognized tax benefits related to uncertain tax positions were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2020

 

 

2019

 

 

2018

 

 

 

 

 

Beginning unrecognized tax benefits

 

$

13,146

 

 

$

11,961

 

 

$

11,737

 

Decreases related to settlements

 

 

(31

)

 

 

(316

)

 

 

(193

)

Increases for tax positions related to the current year

 

 

647

 

 

 

2,106

 

 

 

1,445

 

Increases for tax positions related to prior years

 

 

366

 

 

 

508

 

 

 

151

 

Decreases for tax positions related to prior years

 

 

(331

)

 

 

(1,113

)

 

 

(1,176

)

Decreases due to lapsed statutes of limitations

 

 

(5

)

 

 

0

 

 

 

(3

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Ending unrecognized tax benefits

 

$

 13,792

 

 

$

 13,146

 

 

$

 11,961

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

We settled a portion of the Internal Revenue Service (“IRS”) audit for tax years 2004 to 2006 in fiscal year 2011. In February 2012, the IRS withdrew its 2011 Revenue Agents Report related to unresolved issues for tax years 2004 to 2006 and reopened the audit phase of the examination. We also settled a portion of the IRS audit for tax years 2007 to 2009 in fiscal year 2016, and a portion of the IRS audit for tax years 2010 to 2013 in fiscal year 2018. We remain under audit for tax years 2004 to 2013. In April 2020, the IRS commenced the audit for tax years 2014 to 2017.

As of June 30, 2020, the primary unresolved issues for the IRS audits relate to transfer pricing, which could have a material impact in our consolidated financial statements when the matters are resolved. We believe our allowances for income tax contingencies are adequate. We have not received a proposed assessment for the unresolved issues and do not expect a final resolution of these issues in the next 12 months. Based on the information currently available, we do not anticipate a significant increase or decrease to our tax contingencies for these issues within the next 12 months.

We are subject to income tax in many jurisdictions outside the U.S. Our operations in certain jurisdictions remain subject to examination for tax years 1996 to 2019, some of which are currently under audit by local tax authorities. The resolution of each of these audits is not expected to be material to our consolidated financial statements.

 

 

NOTE 13 — UNEARNED REVENUE

Unearned revenue by segment was as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

June 30,

 

2020

 

 

2019

 

 

 

 

Productivity and Business Processes

 

$

18,643

 

 

$

16,831

 

Intelligent Cloud

 

 

16,620

 

 

 

16,988

 

More Personal Computing

 

 

3,917

 

 

 

3,387

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

39,180

 

 

$

37,206

 

 

 

 

 

 

 

 

 

 

 

Changes in unearned revenue were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30, 2020

 

 

 

 

 

 

 

 

Balance, beginning of period

 

 

$

37,206

 

Deferral of revenue

 

 

 

78,922

 

Recognition of unearned revenue

 

 

 

(76,948

)

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

 

$

39,180

 

 

 

 

 

 

 

 

82


PART II

Item 8

 

Revenue allocated to remaining performance obligations, which includes unearned revenue and amounts that will be invoiced and recognized as revenue in future periods, was $111 billion as of June 30, 2020, of which $107 billion is related to the commercial portion of revenue. We expect to recognize approximately 50% of this revenue over the next 12 months and the remainder thereafter.

NOTE 14 LEASES

We have operating and finance leases for datacenters, corporate offices, research and development facilities, retail stores, and certain equipment. Our leases have remaining lease terms of 1 year to 20 years, some of which include options to extend the leases for up to 5 years, and some of which include options to terminate the leases within 1 year.

The components of lease expense were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2020

 

 

 

2019

 

 

 

2018

 

 

 

 

 

 

 

 

 

 

 

Operating lease cost

 

$

2,043

 

 

$

1,707

 

 

$

1,585

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Finance lease cost:

 

 

 

 

 

 

 

 

 

 

 

 

Amortization of right-of-use assets

 

$

611

 

 

$

370

 

 

$

243

 

Interest on lease liabilities

 

 

336

 

 

 

247

 

 

 

175

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total finance lease cost

 

$

947

 

 

$

617

 

 

$

418

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Supplemental cash flow information related to leases was as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2020

 

 

 

2019

 

 

 

2018

 

 

 

 

 

 

 

 

 

 

 

Cash paid for amounts included in the measurement of lease liabilities:

 

 

 

 

 

 

 

 

 

 

 

 

Operating cash flows from operating leases

 

$

1,829

 

 

$

1,670

 

 

$

1,522

 

Operating cash flows from finance leases

 

 

336

 

 

 

247

 

 

 

175

 

Financing cash flows from finance leases

 

 

409

 

 

 

221

 

 

 

144

 

 

 

 

 

 

 

 

 

 

 

Right-of-use assets obtained in exchange for lease obligations:

 

 

 

 

 

 

 

 

 

 

 

 

Operating leases

 

 

3,677

 

 

 

2,303

 

 

 

1,571

 

Finance leases

 

 

3,467

 

 

 

2,532

 

 

 

1,933

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

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Supplemental balance sheet information related to leases was as follows:

 

(In millions, except lease term and discount rate)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30,

 

2020

 

 

2019

 

 

 

 

Operating Leases

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating lease right-of-use assets

 

$

8,753

 

 

$

7,379

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other current liabilities

 

$

1,616

 

 

$

1,515

 

Operating lease liabilities

 

 

7,671

 

 

 

6,188

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total operating lease liabilities

 

$

9,287

 

 

$

7,703

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Finance Leases

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Property and equipment, at cost

 

$

10,371

 

 

$

7,041

 

Accumulated depreciation

 

 

(1,385

)

 

 

(774

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Property and equipment, net

 

$

8,986

 

 

$

6,267

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other current liabilities

 

$

540

 

 

$

317

 

Other long-term liabilities

 

 

8,956

 

 

 

6,257

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total finance lease liabilities

 

$

9,496

 

 

$

6,574

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Weighted Average Remaining Lease Term

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating leases

 

 

8 years

 

 

 

7 years

 

Finance leases

 

 

13 years

 

 

 

13 years

 

 

 

 

 

 

 

 

 

 

Weighted Average Discount Rate

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating leases

 

 

2.7%

 

 

 

3.0%

 

Finance leases

 

 

3.9%

 

 

 

4.6%

 

 

 

 

 

 

 

 

 

 

 

Maturities of lease liabilities were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ending June 30,

 

Operating Leases

 

 

Finance Leases

 

 

 

 

2021

 

$

1,807

 

 

$

880

 

2022

 

 

1,652

 

 

 

894

 

2023

 

 

1,474

 

 

 

903

 

2024

 

 

1,262

 

 

 

916

 

2025

 

 

1,000

 

 

 

1,236

 

Thereafter

 

 

3,122

 

 

 

7,194

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total lease payments

 

 

10,317

 

 

 

12,023

 

Less imputed interest

 

 

(1,030

)

 

 

(2,527

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

9,287

 

 

$

9,496

 

 

 

 

 

 

 

 

 

 

 

As of June 30, 2020, we have additional operating and finance leases, primarily for datacenters, that have not yet commenced of $3.4 billion and $3.5 billion, respectively. These operating and finance leases will commence between fiscal year 2021 and fiscal year 2023 with lease terms of 1 year to 16 years.

During fiscal year 2020, we recorded an impairment charge of $161 million to operating lease right-of-use assets due to the closing of our Microsoft Store physical locations.

 

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NOTE 15 — CONTINGENCIES

Patent and Intellectual Property Claims

There were 64 patent infringement cases pending against Microsoft as of June 30, 2020, none of which are material individually or in aggregate.

Antitrust, Unfair Competition, and Overcharge Class Actions

Antitrust and unfair competition class action lawsuits were filed against us in British Columbia, Ontario, and Quebec, Canada. All three have been certified on behalf of Canadian indirect purchasers who acquired licenses for Microsoft operating system software and/or productivity application software between 1998 and 2010.

The trial of the British Columbia action commenced in May 2016. Following a mediation, the parties agreed to a global settlement of all three Canadian actions, and submitted the proposed settlement agreement to the courts in all three jurisdictions for approval. The final settlement has been approved by the courts in British Columbia, Ontario, and Quebec, and the claims administration process will commence once each court approves the form of notice to the class.

Other Antitrust Litigation and Claims

China State Administration for Industry and Commerce Investigation

In 2014, Microsoft was informed that China’s State Agency for Market Regulation (“SAMR”) (formerly State Administration for Industry and Commerce) had begun a formal investigation relating to China’s Anti-Monopoly Law, and the SAMR conducted onsite inspections of Microsoft offices in Beijing, Shanghai, Guangzhou, and Chengdu. The SAMR has presented its preliminary views as to certain possible violations of China's Anti-Monopoly Law, and discussions are expected to continue.

Product-Related Litigation

U.S. Cell Phone Litigation

Microsoft Mobile Oy, a subsidiary of Microsoft, along with other handset manufacturers and network operators, is a defendant in 40 lawsuits filed in the Superior Court for the District of Columbia by individual plaintiffs who allege that radio emissions from cellular handsets caused their brain tumors and other adverse health effects. We assumed responsibility for these claims in our agreement to acquire Nokia’s Devices and Services business and have been substituted for the Nokia defendants. Nine of these cases were filed in 2002 and are consolidated for certain pre-trial proceedings; the remaining cases are stayed. In a separate 2009 decision, the Court of Appeals for the District of Columbia held that adverse health effect claims arising from the use of cellular handsets that operate within the U.S. Federal Communications Commission radio frequency emission guidelines (“FCC Guidelines”) are pre-empted by federal law. The plaintiffs allege that their handsets either operated outside the FCC Guidelines or were manufactured before the FCC Guidelines went into effect. The lawsuits also allege an industry-wide conspiracy to manipulate the science and testing around emission guidelines.

In 2013, the defendants in the consolidated cases moved to exclude the plaintiffs’ expert evidence of general causation on the basis of flawed scientific methodologies. In 2014, the trial court granted in part and denied in part the defendants’ motion to exclude the plaintiffs’ general causation experts. The defendants filed an interlocutory appeal to the District of Columbia Court of Appeals challenging the standard for evaluating expert scientific evidence. In October 2016, the Court of Appeals issued its decision adopting the standard advocated by the defendants and remanding the cases to the trial court for further proceedings under that standard. The plaintiffs have filed supplemental expert evidence, portions of which the defendants have moved to strike. In August 2018, the trial court issued an order striking portions of the plaintiffs’ expert reports. A hearing is expected to occur in the second quarter of fiscal year 2021.

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Other Contingencies

We also are subject to a variety of other claims and suits that arise from time to time in the ordinary course of our business. Although management currently believes that resolving claims against us, individually or in aggregate, will not have a material adverse impact in our consolidated financial statements, these matters are subject to inherent uncertainties and management’s view of these matters may change in the future.

As of June 30, 2020, we accrued aggregate legal liabilities of $306 million. While we intend to defend these matters vigorously, adverse outcomes that we estimate could reach approximately $500 million in aggregate beyond recorded amounts are reasonably possible. Were unfavorable final outcomes to occur, there exists the possibility of a material adverse impact in our consolidated financial statements for the period in which the effects become reasonably estimable.

NOTE 16 STOCKHOLDERS’ EQUITY

Shares Outstanding

Shares of common stock outstanding were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2020

 

 

2019

 

 

2018

 

 

 

 

 

Balance, beginning of year

 

 

7,643

 

 

 

7,677

 

 

 

7,708

 

Issued

 

 

54

 

 

 

116

 

 

 

68

 

Repurchased

 

 

(126

)

 

 

(150

)

 

 

(99

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of year

 

 

7,571

 

 

 

7,643

 

 

 

7,677

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Share Repurchases

On September 20, 2016, our Board of Directors approved a share repurchase program authorizing up to $40.0 billion in share repurchases. This share repurchase program commenced in December 2016 and was completed in February 2020.

On September 18, 2019, our Board of Directors approved a share repurchase program authorizing up to $40.0 billion in share repurchases. This share repurchase program commenced in February 2020, following completion of the program approved on September 20, 2016, has no expiration date, and may be terminated at any time. As of June 30, 2020, $31.7 billion remained of this $40.0 billion share repurchase program.

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We repurchased the following shares of common stock under the share repurchase programs:

 

(In millions)

 

Shares

 

 

Amount

 

 

Shares

 

 

Amount

 

 

Shares

 

 

Amount

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2020

 

 

2019

 

 

2018

 

 

 

 

 

 

 

 

First Quarter

 

 

29

 

 

$

4,000

 

 

 

24

 

 

$

2,600

 

 

 

22

 

 

$

1,600

 

Second Quarter

 

 

32

 

 

 

4,600

 

 

 

57

 

 

 

6,100

 

 

 

22

 

 

 

1,800

 

Third Quarter

 

 

37

 

 

 

6,000

 

 

 

36

 

 

 

3,899

 

 

 

34

 

 

 

3,100

 

Fourth Quarter

 

 

28

 

 

 

5,088

 

 

 

33

 

 

 

4,200

 

 

 

21

 

 

 

2,100

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

 

126

 

 

$

19,688

 

 

 

150

 

 

$

16,799

 

 

 

99

 

 

$

 8,600

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Shares repurchased during the fourth quarter of fiscal year 2020 were under the share repurchase program approved on September 18, 2019. Shares repurchased during the third quarter of fiscal year 2020 were under the share repurchase programs approved on both September 20, 2016 and September 18, 2019. All other shares repurchased were under the share repurchase program approved on September 20, 2016. The above table excludes shares repurchased to settle employee tax withholding related to the vesting of stock awards of $3.3 billion, $2.7 billion, and $2.1 billion for fiscal years 2020, 2019, and 2018, respectively. All share repurchases were made using cash resources.

Dividends

Our Board of Directors declared the following dividends:

 

Declaration Date

Record Date

 

 

Payment Date

 

Dividend

Per Share

 

 

Amount

 

 

 

 

 

Fiscal Year 2020

 

 

 

 

 

 

 

 

 (In millions)

 

 

 

 

 

 

September 18, 2019

 

 

November 21, 2019

 

 

 

December 12, 2019

 

 

$

0.51

 

 

$

3,886

 

December 4, 2019

 

 

February 20, 2020

 

 

 

March 12, 2020

 

 

 

0.51

 

 

 

3,876

 

March 9, 2020

 

 

May 21, 2020

 

 

 

June 11, 2020

 

 

 

0.51

 

 

 

3,865

 

June 17, 2020

 

 

August 20, 2020

 

 

 

September 10, 2020

 

 

 

0.51

 

 

 

3,861

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

 

 

 

 

 

 

 

 

$

2.04

 

 

$

15,488

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fiscal Year 2019

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

September 18, 2018

 

 

November 15, 2018

 

 

 

December 13, 2018

 

 

$

0.46

 

 

$

3,544

 

November 28, 2018

 

 

February 21, 2019

 

 

 

March 14, 2019

 

 

 

0.46

 

 

 

3,526

 

March 11, 2019

 

 

May 16, 2019

 

 

 

June 13, 2019

 

 

 

0.46

 

 

 

3,521

 

June 12, 2019

 

 

August 15, 2019

 

 

 

September 12, 2019

 

 

 

0.46

 

 

 

3,510

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

 

 

 

 

 

 

 

 

$

1.84

 

 

$

14,101

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

The dividend declared on June 17, 2020 was included in other current liabilities as of June 30, 2020.

 

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NOTE 17 — ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS)

The following table summarizes the changes in accumulated other comprehensive income (loss) by component:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2020

 

 

2019

 

 

2018

 

 

 

 

 

Derivatives

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

$

0

 

 

$

173

 

 

$

134

 

Unrealized gains (losses), net of tax of $(10), $2, and $11

 

 

(38

)

 

 

160

 

 

 

218

 

Reclassification adjustments for gains included in revenue

 

 

0

 

 

 

(341

)

 

 

(185

)

Tax expense included in provision for income taxes

 

 

0

 

 

 

8

 

 

 

6

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Amounts reclassified from accumulated other comprehensive income (loss)

 

 

0

 

 

 

(333

)

 

 

(179

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net change related to derivatives, net of tax of $(10), $(6), and $5

 

 

(38

)

 

 

(173

)

 

 

39

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

$

(38

)

 

$

0

 

 

$

173

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Investments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

$

1,488

 

 

$

(850

)

 

$

1,825

 

Unrealized gains (losses), net of tax of $1,057, $616, and $(427)

 

 

3,987

 

 

 

2,331

 

 

 

(1,146

)

Reclassification adjustments for (gains) losses included in other income (expense), net

 

 

4

 

 

 

93

 

 

 

(2,309

)

Tax expense (benefit) included in provision for income taxes

 

 

(1

)

 

 

(19

)

 

 

738

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Amounts reclassified from accumulated other comprehensive income (loss)

 

 

3

 

 

 

74

 

 

 

(1,571

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net change related to investments, net of tax of $1,058, $635, and $(1,165)

 

 

3,990

 

 

 

2,405

 

 

 

(2,717

)

Cumulative effect of accounting changes

 

 

0

 

 

 

(67

)

 

 

42

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

$

5,478

 

 

$

1,488

 

 

$

(850

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Translation Adjustments and Other

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

$

 (1,828

)

 

$

 (1,510

)

 

$

 (1,332

)

Translation adjustments and other, net of tax effects of $1, $(1), and $0

 

 

(426

)

 

 

(318

)

 

 

(178

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

$

(2,254

)

 

$

(1,828

)

 

$

(1,510

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Accumulated other comprehensive income (loss), end of period

 

$

3,186

 

 

$

(340

)

 

$

(2,187

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

NOTE 18 — EMPLOYEE STOCK AND SAVINGS PLANS

We grant stock-based compensation to employees and directors. As of June 30, 2020, an aggregate of 283 million shares were authorized for future grant under our stock plans. Awards that expire or are canceled without delivery of shares generally become available for issuance under the plans. We issue new shares of Microsoft common stock to satisfy vesting of awards granted under our stock plans. We also have an ESPP for all eligible employees.

Stock-based compensation expense and related income tax benefits were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2020

 

 

2019

 

 

2018

 

 

 

 

 

Stock-based compensation expense

 

$

5,289

 

 

$

4,652

 

 

$

 3,940

 

Income tax benefits related to stock-based compensation

 

 

938

 

 

 

816

 

 

 

823

 

 

 

 

Stock Plans

Stock awards entitle the holder to receive shares of Microsoft common stock as the award vests. Stock awards generally vest over a service period of four years or five years.

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Executive Incentive Plan

Under the Executive Incentive Plan, the Compensation Committee approves stock awards to executive officers and certain senior executives. RSUs generally vest ratably over a service period of four years. PSUs generally vest over a performance period of three years. The number of shares the PSU holder receives is based on the extent to which the corresponding performance goals have been achieved.

Activity for All Stock Plans

The fair value of stock awards was estimated on the date of grant using the following assumptions:

 

 

 

 

 

 

 

 

 

 

 

 

Year ended June 30,

 

 

 

 

2020

 

 

 

 

 

2019

 

 

 

 

 

2018

 

 

 

 

 

 

 

Dividends per share (quarterly amounts)

 

$

0.46

0.51

 

 

$

0.42

0.46

 

 

$

0.39

0.42

 

Interest rates

 

 

0.1%

2.2%

 

 

 

1.8%

3.1%

 

 

 

1.7%

2.9%

 

 

 

 

 

 

 

 

 

 

During fiscal year 2020, the following activity occurred under our stock plans:

 

Shares

 

 

Weighted

Average

Grant-Date

Fair Value

 

 

 

 

 

(In millions)

 

 

 

 

 

Stock Awards

 

 

 

 

Nonvested balance, beginning of year

 

 

147

 

 

 $

78.49

 

Granted (a)

 

 

53

 

 

 

140.49

 

Vested

 

 

(65

)

 

 

75.35

 

Forfeited

 

 

(9

)

 

 

90.30

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Nonvested balance, end of year

 

 

126

 

 

 $

105.23

 

 

 

 

 

 

 

 

 

 

 

(a)

Includes 2 million, 2 million, and 3 million of PSUs granted at target and performance adjustments above target levels for fiscal years 2020, 2019, and 2018, respectively.

 

As of June 30, 2020, there was approximately $10.2 billion of total unrecognized compensation costs related to stock awards. These costs are expected to be recognized over a weighted average period of three years. The weighted average grant-date fair value of stock awards granted was $140.49, $107.02, and $75.88 for fiscal years 2020, 2019, and 2018, respectively. The fair value of stock awards vested was $10.1 billion, $8.7 billion, and $6.6 billion, for fiscal years 2020, 2019, and 2018, respectively.

Employee Stock Purchase Plan

We have an ESPP for all eligible employees. Shares of our common stock may be purchased by employees at three-month intervals at 90% of the fair market value on the last trading day of each three-month period. Employees may purchase shares having a value not exceeding 15% of their gross compensation during an offering period. Employees purchased the following shares during the periods presented:

 

(Shares in millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2020

 

 

2019

 

 

2018

 

 

 

 

 

Shares purchased

 

 

9

 

 

 

11

 

 

 

13

 

Average price per share

 

$

142.22

 

 

$

104.85

 

 

$

 76.40

 

 

 

 

As of June 30, 2020, 96 million shares of our common stock were reserved for future issuance through the ESPP.

89


PART II

Item 8

 

Savings Plan

We have savings plans in the U.S. that qualify under Section 401(k) of the Internal Revenue Code, and a number of savings plans in international locations. Eligible U.S. employees may contribute a portion of their salary into the savings plans, subject to certain limitations. We contribute fifty cents for each dollar a participant contributes into the plans, with a maximum employer contribution of 50% of the IRS contribution limit for the calendar year. Employer-funded retirement benefits for all plans were $1.0 billion, $877 million, and $807 million in fiscal years 2020, 2019, and 2018, respectively, and were expensed as contributed.

NOTE 19 — SEGMENT INFORMATION AND GEOGRAPHIC DATA

In its operation of the business, management, including our chief operating decision maker, who is also our Chief Executive Officer, reviews certain financial information, including segmented internal profit and loss statements prepared on a basis not consistent with GAAP. During the periods presented, we reported our financial performance based on the following segments: Productivity and Business Processes, Intelligent Cloud, and More Personal Computing.

Our reportable segments are described below.

Productivity and Business Processes

Our Productivity and Business Processes segment consists of products and services in our portfolio of productivity, communication, and information services, spanning a variety of devices and platforms. This segment primarily comprises:

 

Office Commercial, including Office 365 subscriptions, the Office portion of Microsoft 365 Commercial subscriptions, and Office licensed on-premises, comprising Office, Exchange, SharePoint, Microsoft Teams, Office 365 Security and Compliance, and Skype for Business, and related Client Access Licenses (“CALs”).

 

Office Consumer, including Microsoft 365 Consumer (formerly Office 365 Consumer) subscriptions and Office licensed on-premises, and Office Consumer Services, including Skype, Outlook.com, and OneDrive.

 

LinkedIn, including Talent Solutions, Learning Solutions, Marketing Solutions, Sales Solutions, and Premium Subscriptions.

 

Dynamics business solutions, including Dynamics 365, a set of cloud-based applications across ERP and CRM, Dynamics ERP on-premises, and Dynamics CRM on-premises.

Intelligent Cloud

Our Intelligent Cloud segment consists of our public, private, and hybrid server products and cloud services that can power modern business and developers. This segment primarily comprises:

 

Server products and cloud services, including Azure; SQL Server, Windows Server, Visual Studio, System Center, and related CALs; and GitHub.

 

Enterprise Services, including Premier Support Services and Microsoft Consulting Services.

More Personal Computing

Our More Personal Computing segment consists of products and services that put customers at the center of the experience with our technology. This segment primarily comprises:

 

Windows, including Windows OEM licensing and other non-volume licensing of the Windows operating system; Windows Commercial, comprising volume licensing of the Windows operating system, Windows cloud services, and other Windows commercial offerings; patent licensing; Windows Internet of Things; and MSN advertising.

 

Devices, including Surface and PC accessories.

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PART II

Item 8

 

 

Gaming, including Xbox hardware and Xbox content and services, comprising Xbox Live (transactions, subscriptions, cloud services, and advertising), video games, and third-party video game royalties.

 

Search.

Revenue and costs are generally directly attributed to our segments. However, due to the integrated structure of our business, certain revenue recognized and costs incurred by one segment may benefit other segments. Revenue from certain contracts is allocated among the segments based on the relative value of the underlying products and services, which can include allocation based on actual prices charged, prices when sold separately, or estimated costs plus a profit margin. Cost of revenue is allocated in certain cases based on a relative revenue methodology. Operating expenses that are allocated primarily include those relating to marketing of products and services from which multiple segments benefit and are generally allocated based on relative gross margin.

In addition, certain costs incurred at a corporate level that are identifiable and that benefit our segments are allocated to them. These allocated costs include costs of: legal, including settlements and fines; information technology; human resources; finance; excise taxes; field selling; shared facilities services; and customer service and support. Each allocation is measured differently based on the specific facts and circumstances of the costs being allocated. Certain corporate-level activity is not allocated to our segments.

Segment revenue and operating income were as follows during the periods presented:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

 

2020

 

 

 

2019

 

 

 

2018

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Revenue

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Productivity and Business Processes

 

$

46,398

 

 

$

41,160

 

 

$

35,865

 

Intelligent Cloud

 

 

48,366

 

 

 

38,985

 

 

 

32,219

 

More Personal Computing

 

 

48,251

 

 

 

45,698

 

 

 

42,276

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

143,015

 

 

$

125,843

 

 

$

110,360

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating Income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Productivity and Business Processes

 

$

18,724

 

 

$

16,219

 

 

$

12,924

 

Intelligent Cloud

 

 

18,324

 

 

 

13,920

 

 

 

11,524

 

More Personal Computing

 

 

15,911

 

 

 

12,820

 

 

 

10,610

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

52,959

 

 

$

42,959

 

 

$

35,058

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

No sales to an individual customer or country other than the United States accounted for more than 10% of revenue for fiscal years 2020, 2019, or 2018. Revenue, classified by the major geographic areas in which our customers were located, was as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2020

 

 

2019

 

 

2018

 

 

 

 

 

United States (a)

 

$

73,160

 

 

$

64,199

 

 

$

55,926

 

Other countries

 

 

69,855

 

 

 

61,644

 

 

 

54,434

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

143,015

 

 

$

 125,843

 

 

$

 110,360

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(a)

Includes billings to OEMs and certain multinational organizations because of the nature of these businesses and the impracticability of determining the geographic source of the revenue.

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PART II

Item 8

 

Revenue from external customers, classified by significant product and service offerings, was as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2020

 

 

2019

 

 

2018

 

 

 

 

 

Server products and cloud services

 

$

41,379

 

 

$

32,622

 

 

$

26,129

 

Office products and cloud services

 

 

35,316

 

 

 

31,769

 

 

 

28,316

 

Windows

 

 

22,294

 

 

 

20,395

 

 

 

19,518

 

Gaming

 

 

11,575

 

 

 

11,386

 

 

 

10,353

 

LinkedIn

 

 

8,077

 

 

 

6,754

 

 

 

5,259

 

Search advertising

 

 

7,740

 

 

 

7,628

 

 

 

7,012

 

Devices

 

 

6,457

 

 

 

6,095

 

 

 

5,134

 

Enterprise Services

 

 

6,409

 

 

 

6,124

 

 

 

5,846

 

Other

 

 

3,768

 

 

 

3,070

 

 

 

2,793

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

143,015

 

 

$

125,843

 

 

$

 110,360

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Our commercial cloud revenue, which includes Office 365 Commercial, Azure, the commercial portion of LinkedIn, Dynamics 365, and other commercial cloud properties, was $51.7 billion, $38.1 billion and $26.6 billion in fiscal years 2020, 2019, and 2018, respectively. These amounts are primarily included in Office products and cloud services, Server products and cloud services, and LinkedIn in the table above.

Assets are not allocated to segments for internal reporting presentations. A portion of amortization and depreciation is included with various other costs in an overhead allocation to each segment. It is impracticable for us to separately identify the amount of amortization and depreciation by segment that is included in the measure of segment profit or loss.

Long-lived assets, excluding financial instruments and tax assets, classified by the location of the controlling statutory company and with countries over 10% of the total shown separately, were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

June 30,

 

2020

 

 

2019

 

 

2018

 

 

 

 

 

United States

 

$

60,789

 

 

$

55,252

 

 

$

44,501

 

Ireland

 

 

12,734

 

 

 

12,958

 

 

 

12,843

 

Other countries

 

 

29,770

 

 

 

25,422

 

 

 

22,538

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

 103,293

 

 

$

 93,632

 

 

$

 79,882

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

92


PART II

Item 8

 

NOTE 20 — QUARTERLY INFORMATION (UNAUDITED)

 

(In millions, except per share amounts)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Quarter Ended

 

September 30

 

 

December 31

 

 

March 31

 

 

June 30

 

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fiscal Year 2020

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Revenue

 

$

 33,055

 

 

$

36,906

 

 

$

35,021

 

 

$

38,033

 

 

$

143,015

 

Gross margin

 

 

22,649

 

 

 

24,548

 

 

 

24,046

 

 

 

25,694

 

 

 

96,937

 

Operating income

 

 

12,686

 

 

 

13,891

 

 

 

12,975

 

 

 

13,407

 

 

 

52,959

 

Net income

 

 

10,678

 

 

 

11,649

 

 

 

10,752

 

 

 

11,202

 

 

 

44,281

 

Basic earnings per share

 

 

1.40

 

 

 

1.53

 

 

 

1.41

 

 

 

1.48

 

 

 

5.82

 

Diluted earnings per share

 

 

1.38

 

 

 

1.51

 

 

 

1.40

 

 

 

1.46

 

 

 

5.76

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fiscal Year 2019

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Revenue

 

 

 29,084

 

 

 

32,471

 

 

 

30,571

 

 

 

33,717

 

 

 

125,843

 

Gross margin

 

 

19,179

 

 

 

20,048

 

 

 

20,401

 

 

 

23,305

 

 

 

82,933

 

Operating income

 

 

9,955

 

 

 

10,258

 

 

 

10,341

 

 

 

12,405

 

 

 

42,959

 

Net income (a)

 

 

8,824

 

 

 

8,420

 

 

 

8,809

 

 

 

13,187

 

 

 

39,240

 

Basic earnings per share

 

 

1.15

 

 

 

1.09

 

 

 

1.15

 

 

 

1.72

 

 

 

5.11

 

Diluted earnings per share (b)

 

 

1.14

 

 

 

1.08

 

 

 

1.14

 

 

 

1.71

 

 

 

5.06

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(a)

Reflects the $157 million net charge related to the enactment of the TCJA for the second quarter and the $2.6 billion net income tax benefit related to the intangible property transfers for the fourth quarter, which together increased net income by $2.4 billion for fiscal year 2019. See Note 12 – Income Taxes for further information.

(b)

Reflects the net charge related to the enactment of the TCJA and the net income tax benefit related to the intangible property transfers, which decreased (increased) diluted EPS $0.02 for the second quarter, $(0.34) for the fourth quarter, and $(0.31) for fiscal year 2019.

 

93


PART II

Item 8

 

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the Stockholders and the Board of Directors of Microsoft Corporation

Opinion on the Financial Statements

We have audited the accompanying consolidated balance sheets of Microsoft Corporation and subsidiaries (the "Company") as of June 30, 2020 and 2019, the related consolidated statements of income, comprehensive income, cash flows, and stockholders' equity, for each of the three years in the period ended June 30, 2020, and the related notes (collectively referred to as the "financial statements"). In our opinion, the financial statements present fairly, in all material respects, the financial position of the Company as of June 30, 2020 and 2019, and the results of its operations and its cash flows for each of the three years in the period ended June 30, 2020, in conformity with accounting principles generally accepted in the United States of America.

We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (PCAOB), the Company's internal control over financial reporting as of June 30, 2020, based on criteria established in Internal Control — Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated July 30, 2020, expressed an unqualified opinion on the Company's internal control over financial reporting.

Basis for Opinion

These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on the Company's financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.

Critical Audit Matters

The critical audit matters communicated below are matters arising from the current-period audit of the financial statements that were communicated or required to be communicated to the audit committee and that (1) relate to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the financial statements, taken as a whole, and we are not, by communicating the critical audit matters below, providing separate opinions on the critical audit matters or on the accounts or disclosures to which they relate.


94


PART II

Item 8

 

Revenue Recognition – Refer to Note 1 to the financial statements

Critical Audit Matter Description

The Company recognizes revenue upon transfer of control of promised products or services to customers in an amount that reflects the consideration the Company expects to receive in exchange for those products or services. The Company offers customers the ability to acquire multiple licenses of software products and services, including cloud-based services, in its customer agreements through its volume licensing programs.

Significant judgment is exercised by the Company in determining revenue recognition for these customer agreements, and includes the following:

 

Determination of whether products and services are considered distinct performance obligations that should be accounted for separately versus together, such as software licenses and related services that are sold with cloud-based services.

 

 

The pattern of delivery (i.e., timing of when revenue is recognized) for each distinct performance obligation.

 

 

Identification and treatment of contract terms that may impact the timing and amount of revenue recognized (e.g., variable consideration, optional purchases, and free services).

 

 

Determination of stand-alone selling prices for each distinct performance obligation and for products and services that are not sold separately.

 

Given these factors and due to the volume of transactions, the related audit effort in evaluating management's judgments in determining revenue recognition for these customer agreements was extensive and required a high degree of auditor judgment.

How the Critical Audit Matter Was Addressed in the Audit

Our principal audit procedures related to the Company's revenue recognition for these customer agreements included the following:

 

We tested the effectiveness of controls related to the identification of distinct performance obligations, the determination of the timing of revenue recognition, and the estimation of variable consideration.

 

 

We evaluated management's significant accounting policies related to these customer agreements for reasonableness.

 

 

We selected a sample of customer agreements and performed the following procedures:

 

 

Obtained and read contract source documents for each selection, including master agreements, and other documents that were part of the agreement.

 

 

Tested management's identification and treatment of contract terms.

 

 

Assessed the terms in the customer agreement and evaluated the appropriateness of management's application of their accounting policies, along with their use of estimates, in the determination of revenue recognition conclusions.

 

 

We evaluated the reasonableness of management's estimate of stand-alone selling prices for products and services that are not sold separately.

 

 

We tested the mathematical accuracy of management's calculations of revenue and the associated timing of revenue recognized in the financial statements.

 

95


PART II

Item 8

 

Income Taxes – Uncertain Tax Positions – Refer to Note 12 to the financial statements

Critical Audit Matter Description

The Company's long-term income taxes liability includes uncertain tax positions related to transfer pricing issues that remain unresolved with the Internal Revenue Service ("IRS"). The Company remains under IRS audit, or subject to IRS audit, for tax years subsequent to 2003. While the Company has settled a portion of the IRS audits, resolution of the remaining matters could have a material impact on the Company's financial statements.

Conclusions on recognizing and measuring uncertain tax positions involve significant estimates and management judgment and include complex considerations of the Internal Revenue Code, related regulations, tax case laws, and prior-year audit settlements. Given the complexity and the subjective nature of the transfer pricing issues that remain unresolved with the IRS, evaluating management's estimates relating to their determination of uncertain tax positions required extensive audit effort and a high degree of auditor judgment, including involvement of our tax specialists.

How the Critical Audit Matter Was Addressed in the Audit

Our principal audit procedures to evaluate management's estimates of uncertain tax positions related to unresolved transfer pricing issues included the following:

 

We evaluated the appropriateness and consistency of management's methods and assumptions used in the identification, recognition, measurement, and disclosure of uncertain tax positions, which included testing the effectiveness of the related internal controls.

 

 

We read and evaluated management's documentation, including relevant accounting policies and information obtained by management from outside tax specialists, that detailed the basis of the uncertain tax positions.

 

 

We tested the reasonableness of management's judgments regarding the future resolution of the uncertain tax positions, including an evaluation of the technical merits of the uncertain tax positions.

 

 

For those uncertain tax positions that had not been effectively settled, we evaluated whether management had appropriately considered new information that could significantly change the recognition, measurement or disclosure of the uncertain tax positions.

 

 

We evaluated the reasonableness of management's estimates by considering how tax law, including statutes, regulations and case law, impacted management's judgments.

 

 

/s/ DELOITTE & TOUCHE LLP

 

Seattle, Washington

July 30, 2020

 

We have served as the Company's auditor since 1983.

 

 

96


PART II

Item 9, 9A

 


YEAR 2019
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

INCOME STATEMENTS

 

(In millions, except per share amounts)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2019

 

 

2018

 

 

2017

 

 

 

 

 

Revenue:

 

 

 

 

 

 

 

 

 

 

 

 

Product

 

$

66,069

 

 

$

64,497

 

 

$

63,811

 

Service and other

 

 

59,774

 

 

 

45,863

 

 

 

32,760

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total revenue

 

 

125,843

 

 

 

110,360

 

 

 

96,571

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cost of revenue:

 

 

 

 

 

 

 

 

 

 

 

 

Product

 

 

16,273

 

 

 

15,420

 

 

 

15,175

 

Service and other

 

 

26,637

 

 

 

22,933

 

 

 

19,086

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total cost of revenue

 

 

42,910

 

 

 

38,353

 

 

 

34,261

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross margin

 

 

82,933

 

 

 

72,007

 

 

 

62,310

 

Research and development

 

 

16,876

 

 

 

14,726

 

 

 

13,037

 

Sales and marketing

 

 

18,213

 

 

 

17,469

 

 

 

15,461

 

General and administrative

 

 

4,885

 

 

 

4,754

 

 

 

4,481

 

Restructuring

 

 

0

 

 

 

0

 

 

 

306

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating income

 

 

42,959

 

 

 

35,058

 

 

 

29,025

 

Other income, net

 

 

729

 

 

 

1,416

 

 

 

876

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Income before income taxes

 

 

43,688

 

 

 

36,474

 

 

 

29,901

 

Provision for income taxes

 

 

4,448

 

 

 

19,903

 

 

 

4,412

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

$

39,240

 

 

$

16,571

 

 

$

25,489

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Earnings per share:

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

$

5.11

 

 

$

2.15

 

 

$

3.29

 

Diluted

 

$

5.06

 

 

$

2.13

 

 

$

3.25

 

 

 

 

 

 

 

 

 

Weighted average shares outstanding:

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

 

7,673

 

 

 

7,700

 

 

 

7,746

 

Diluted

 

 

7,753

 

 

 

7,794

 

 

 

7,832

 

 

 

Refer to accompanying notes.

 

51


PART II

Item 8

 

COMPREHENSIVE INCOME STATEMENTS

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2019

 

 

2018

 

 

2017

 

 

 

 

 

Net income

 

$

39,240

 

 

$

16,571

 

 

$

25,489

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other comprehensive income (loss), net of tax:

 

 

 

 

 

 

 

 

 

 

 

 

Net change related to derivatives

 

 

(173

)

 

 

39

 

 

 

(218

)

Net change related to investments

 

 

2,405

 

 

 

(2,717

)

 

 

(1,116

)

Translation adjustments and other

 

 

(318

)

 

 

(178

)

 

 

167

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other comprehensive income (loss)

 

 

1,914

 

 

 

(2,856

)

 

 

(1,167

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Comprehensive income

 

$

41,154

 

 

$

13,715

 

 

$

24,322

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Refer to accompanying notes. Refer to Note 18 – Accumulated Other Comprehensive Income (Loss) for further information.

 

 

 

52


PART II

Item 8

 

BALANCE SHEETS

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

June 30,

 

2019

 

 

2018

 

 

 

 

Assets

 

 

 

 

 

 

 

 

Current assets:

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

11,356

 

 

$

11,946

 

Short-term investments

 

 

122,463

 

 

 

121,822

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total cash, cash equivalents, and short-term investments

 

 

133,819

 

 

 

133,768

 

Accounts receivable, net of allowance for doubtful accounts of $411 and $377

 

 

29,524

 

 

 

26,481

 

Inventories

 

 

2,063

 

 

 

2,662

 

Other

 

 

10,146

 

 

 

6,751

 

 

 

 

 

 

 

 

 

 

 

 

 

Total current assets

 

 

175,552

 

 

 

169,662

 

Property and equipment, net of accumulated depreciation of $35,330 and $29,223

 

 

36,477

 

 

 

29,460

 

Operating lease right-of-use assets

 

 

7,379

 

 

 

6,686

 

Equity investments

 

 

2,649

 

 

 

1,862

 

Goodwill

 

 

42,026

 

 

 

35,683

 

Intangible assets, net

 

 

7,750

 

 

 

8,053

 

Other long-term assets

 

 

14,723

 

 

 

7,442

 

 

 

 

 

 

 

 

 

 

 

 

 

Total assets

 

$

286,556

 

 

$

258,848

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Liabilities and stockholders’ equity

 

 

 

 

 

 

 

 

Current liabilities:

 

 

 

 

 

 

 

 

Accounts payable

 

$

9,382

 

 

$

8,617

 

Current portion of long-term debt

 

 

5,516

 

 

 

3,998

 

Accrued compensation

 

 

6,830

 

 

 

6,103

 

Short-term income taxes

 

 

5,665

 

 

 

2,121

 

Short-term unearned revenue

 

 

32,676

 

 

 

28,905

 

Other

 

 

9,351

 

 

 

8,744

 

 

 

 

 

 

 

 

 

 

 

 

 

Total current liabilities

 

 

69,420

 

 

 

58,488

 

Long-term debt

 

 

66,662

 

 

 

72,242

 

Long-term income taxes

 

 

29,612

 

 

 

30,265

 

Long-term unearned revenue

 

 

4,530

 

 

 

3,815

 

Deferred income taxes

 

 

233

 

 

 

541

 

Operating lease liabilities

 

 

6,188

 

 

 

5,568

 

Other long-term liabilities

 

 

7,581

 

 

 

5,211

 

 

 

 

 

 

 

 

 

 

 

 

 

Total liabilities

 

 

184,226

 

 

 

176,130

 

 

 

 

 

 

 

 

 

 

 

 

 

Commitments and contingencies

 

 

 

 

 

 

 

 

Stockholders’ equity:

 

 

 

 

 

 

 

 

Common stock and paid-in capital – shares authorized 24,000; outstanding 7,643 and 7,677

 

 

78,520

 

 

 

71,223

 

Retained earnings

 

 

24,150

 

 

 

13,682

 

Accumulated other comprehensive loss

 

 

(340

)

 

 

(2,187

)

 

 

 

 

 

 

 

 

 

 

 

 

Total stockholders’ equity

 

 

102,330

 

 

 

82,718

 

 

 

 

 

 

 

 

 

 

 

 

 

Total liabilities and stockholders’ equity

 

$

286,556

 

 

$

258,848

 

 

 

 

 

 

 

 

 

 

 

Refer to accompanying notes.

 

53


PART II

Item 8

 

CASH FLOWS STATEMENTS

 

 (In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2019

 

 

2018

 

 

2017

 

 

 

 

 

Operations

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

$

39,240

 

 

$

16,571

 

 

$

25,489

 

Adjustments to reconcile net income to net cash from operations:

 

 

 

 

 

 

 

 

 

 

 

 

Depreciation, amortization, and other

 

 

11,682

 

 

 

10,261

 

 

 

8,778

 

Stock-based compensation expense

 

 

4,652

 

 

 

3,940

 

 

 

3,266

 

Net recognized gains on investments and derivatives

 

 

(792

)

 

 

(2,212

)

 

 

(2,073

)

Deferred income taxes

 

 

(6,463

)

 

 

(5,143

)

 

 

(829

)

Changes in operating assets and liabilities:

 

 

 

 

 

 

 

 

 

 

 

 

Accounts receivable

 

 

(2,812

)

 

 

(3,862

)

 

 

(1,216

)

Inventories

 

 

597

 

 

 

(465

)

 

 

50

 

Other current assets

 

 

(1,718

)

 

 

(952

)

 

 

1,028

 

Other long-term assets

 

 

(1,834

)

 

 

(285

)

 

 

(917

)

Accounts payable

 

 

232

 

 

 

1,148

 

 

 

81

 

Unearned revenue

 

 

4,462

 

 

 

5,922

 

 

 

3,820

 

Income taxes

 

 

2,929

 

 

 

18,183

 

 

 

1,792

 

Other current liabilities

 

 

1,419

 

 

 

798

 

 

 

356

 

Other long-term liabilities

 

 

591

 

 

 

(20

)

 

 

(118

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net cash from operations

 

 

52,185

 

 

 

43,884

 

 

 

39,507

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Financing

 

 

 

 

 

 

 

 

 

 

 

 

Repayments of short-term debt, maturities of 90 days or less, net

 

 

0

 

 

 

(7,324

)

 

 

(4,963

)

Proceeds from issuance of debt

 

 

0

 

 

 

7,183

 

 

 

44,344

 

Repayments of debt

 

 

(4,000

)

 

 

(10,060

)

 

 

(7,922

)

Common stock issued

 

 

1,142

 

 

 

1,002

 

 

 

772

 

Common stock repurchased

 

 

(19,543

)

 

 

(10,721

)

 

 

(11,788

)

Common stock cash dividends paid

 

 

(13,811

)

 

 

(12,699

)

 

 

(11,845

)

Other, net

 

 

(675

)

 

 

(971

)

 

 

(190

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net cash from (used in) financing

 

 

(36,887

)

 

 

(33,590

)

 

 

8,408

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Investing

 

 

 

 

 

 

 

 

 

 

 

 

Additions to property and equipment

 

 

(13,925

)

 

 

(11,632

)

 

 

(8,129

)

Acquisition of companies, net of cash acquired, and purchases of intangible and other assets

 

 

(2,388

)

 

 

(888

)

 

 

(25,944

)

Purchases of investments

 

 

(57,697

)

 

 

(137,380

)

 

 

(176,905

)

Maturities of investments

 

 

20,043

 

 

 

26,360

 

 

 

28,044

 

Sales of investments

 

 

38,194

 

 

 

117,577

 

 

 

136,350

 

Securities lending payable

 

 

0

 

 

 

(98

)

 

 

(197

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net cash used in investing

 

 

(15,773

)

 

 

(6,061

)

 

 

 (46,781

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Effect of foreign exchange rates on cash and cash equivalents

 

 

(115

)

 

 

50

 

 

 

19

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net change in cash and cash equivalents

 

 

(590

)

 

 

4,283

 

 

 

1,153

 

Cash and cash equivalents, beginning of period

 

 

11,946

 

 

 

7,663

 

 

 

6,510

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash and cash equivalents, end of period

 

$

11,356

 

 

$

11,946

 

 

$

7,663

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Refer to accompanying notes.

54


PART II

Item 8

 

STOCKHOLDERS’ EQUITY STATEMENTS

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2019

 

 

2018

 

 

2017

 

 

 

 

 

Common stock and paid-in capital

 

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

$

71,223

 

 

$

69,315

 

 

$

68,178

 

Common stock issued

 

 

6,829

 

 

 

1,002

 

 

 

772

 

Common stock repurchased

 

 

(4,195

)

 

 

(3,033

)

 

 

(2,987

)

Stock-based compensation expense

 

 

4,652

 

 

 

3,940

 

 

 

3,266

 

Other, net

 

 

11

 

 

 

(1

)

 

 

86

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

 

78,520

 

 

 

71,223

 

 

 

69,315

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Retained earnings

 

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

 

13,682

 

 

 

17,769

 

 

 

13,118

 

Net income

 

 

39,240

 

 

 

16,571

 

 

 

25,489

 

Common stock cash dividends

 

 

(14,103

)

 

 

(12,917

)

 

 

(12,040

)

Common stock repurchased

 

 

(15,346

)

 

 

(7,699

)

 

 

(8,798

)

Cumulative effect of accounting changes

 

 

677

 

 

 

(42

)

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

 

24,150

 

 

 

13,682

 

 

 

17,769

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Accumulated other comprehensive income (loss)

 

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

 

(2,187

)

 

 

627

 

 

 

1,794

 

Other comprehensive income (loss)

 

 

1,914

 

 

 

(2,856

)

 

 

(1,167

)

Cumulative effect of accounting changes

 

 

(67

)

 

 

42

 

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

 

(340

)

 

 

(2,187

)

 

 

627

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total stockholders’ equity

 

$

102,330

 

 

$

82,718

 

 

$

87,711

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash dividends declared per common share

 

$

1.84

 

 

$

1.68

 

 

$

1.56

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Refer to accompanying notes.

 

55


PART II

Item 8

 

NOTES TO FINANCIAL STATEMENTS

NOTE 1 — ACCOUNTING POLICIES

Accounting Principles

Our consolidated financial statements and accompanying notes are prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”).

We have recast certain prior period amounts related to investments, derivatives, and fair value measurements to conform to the current period presentation based on our adoption of the new accounting standard for financial instruments. We have recast prior period commercial cloud revenue to include the commercial portion of LinkedIn to provide a comparable view of our commercial cloud business performance. The commercial portion of LinkedIn includes LinkedIn Recruiter, Sales Navigator, premium business subscriptions, and other services for organizations. We have also recast components of the prior period deferred income tax assets and liabilities to conform to the current period presentation. The recast of these prior period amounts had no impact on our consolidated balance sheets, consolidated income statements, or net cash from or used in operating, financing, or investing on our consolidated cash flows statements.

Principles of Consolidation

The consolidated financial statements include the accounts of Microsoft Corporation and its subsidiaries. Intercompany transactions and balances have been eliminated.

Estimates and Assumptions

Preparing financial statements requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue, and expenses. Examples of estimates and assumptions include: for revenue recognition, determining the nature and timing of satisfaction of performance obligations, and determining the standalone selling price (“SSP”) of performance obligations, variable consideration, and other obligations such as product returns and refunds; loss contingencies; product warranties; the fair value of and/or potential impairment of goodwill and intangible assets for our reporting units; product life cycles; useful lives of our tangible and intangible assets; allowances for doubtful accounts; the market value of, and demand for, our inventory; stock-based compensation forfeiture rates; when technological feasibility is achieved for our products; the potential outcome of uncertain tax positions that have been recognized on our consolidated financial statements or tax returns; and determining the timing and amount of impairments for investments. Actual results and outcomes may differ from management’s estimates and assumptions.

Foreign Currencies

Assets and liabilities recorded in foreign currencies are translated at the exchange rate on the balance sheet date. Revenue and expenses are translated at average rates of exchange prevailing during the year. Translation adjustments resulting from this process are recorded to other comprehensive income (“OCI”).

Revenue

Product Revenue and Service and Other Revenue

Product revenue includes sales from operating systems; cross-device productivity applications; server applications; business solution applications; desktop and server management tools; software development tools; video games; and hardware such as PCs, tablets, gaming and entertainment consoles, other intelligent devices, and related accessories.

Service and other revenue includes sales from cloud-based solutions that provide customers with software, services, platforms, and content such as Microsoft Office 365, Microsoft Azure, Microsoft Dynamics 365, and Xbox Live; solution support; and consulting services. Service and other revenue also includes sales from online advertising and LinkedIn.

56


PART II

Item 8

 

Revenue Recognition

Revenue is recognized upon transfer of control of promised products or services to customers in an amount that reflects the consideration we expect to receive in exchange for those products or services. We enter into contracts that can include various combinations of products and services, which are generally capable of being distinct and accounted for as separate performance obligations. Revenue is recognized net of allowances for returns and any taxes collected from customers, which are subsequently remitted to governmental authorities.

Nature of Products and Services

Licenses for on-premises software provide the customer with a right to use the software as it exists when made available to the customer. Customers may purchase perpetual licenses or subscribe to licenses, which provide customers with the same functionality and differ mainly in the duration over which the customer benefits from the software. Revenue from distinct on-premises licenses is recognized upfront at the point in time when the software is made available to the customer. In cases where we allocate revenue to software updates, primarily because the updates are provided at no additional charge, revenue is recognized as the updates are provided, which is generally ratably over the estimated life of the related device or license.

Certain volume licensing programs, including Enterprise Agreements, include on-premises licenses combined with Software Assurance (“SA”). SA conveys rights to new software and upgrades released over the contract period and provides support, tools, and training to help customers deploy and use products more efficiently. On-premises licenses are considered distinct performance obligations when sold with SA. Revenue allocated to SA is generally recognized ratably over the contract period as customers simultaneously consume and receive benefits, given that SA comprises distinct performance obligations that are satisfied over time.

Cloud services, which allow customers to use hosted software over the contract period without taking possession of the software, are provided on either a subscription or consumption basis. Revenue related to cloud services provided on a subscription basis is recognized ratably over the contract period. Revenue related to cloud services provided on a consumption basis, such as the amount of storage used in a period, is recognized based on the customer utilization of such resources. When cloud services require a significant level of integration and interdependency with software and the individual components are not considered distinct, all revenue is recognized over the period in which the cloud services are provided.

Revenue from search advertising is recognized when the advertisement appears in the search results or when the action necessary to earn the revenue has been completed. Revenue from consulting services is recognized as services are provided.

Our hardware is generally highly dependent on, and interrelated with, the underlying operating system and cannot function without the operating system. In these cases, the hardware and software license are accounted for as a single performance obligation and revenue is recognized at the point in time when ownership is transferred to resellers or directly to end customers through retail stores and online marketplaces.

Refer to Note 20 – Segment Information and Geographic Data for further information, including revenue by significant product and service offering.

Significant Judgments

Our contracts with customers often include promises to transfer multiple products and services to a customer. Determining whether products and services are considered distinct performance obligations that should be accounted for separately versus together may require significant judgment. When a cloud-based service includes both on-premises software licenses and cloud services, judgment is required to determine whether the software license is considered distinct and accounted for separately, or not distinct and accounted for together with the cloud service and recognized over time. Certain cloud services, primarily Office 365, depend on a significant level of integration, interdependency, and interrelation between the desktop applications and cloud services, and are accounted for together as one performance obligation. Revenue from Office 365 is recognized ratably over the period in which the cloud services are provided.

57


PART II

Item 8

 

Judgment is required to determine the SSP for each distinct performance obligation. We use a single amount to estimate SSP for items that are not sold separately, including on-premises licenses sold with SA or software updates provided at no additional charge. We use a range of amounts to estimate SSP when we sell each of the products and services separately and need to determine whether there is a discount to be allocated based on the relative SSP of the various products and services.

In instances where SSP is not directly observable, such as when we do not sell the product or service separately, we determine the SSP using information that may include market conditions and other observable inputs. We typically have more than one SSP for individual products and services due to the stratification of those products and services by customers and circumstances. In these instances, we may use information such as the size of the customer and geographic region in determining the SSP.

Due to the various benefits from and the nature of our SA program, judgment is required to assess the pattern of delivery, including the exercise pattern of certain benefits across our portfolio of customers.

Our products are generally sold with a right of return, we may provide other credits or incentives, and in certain instances we estimate customer usage of our products and services, which are accounted for as variable consideration when determining the amount of revenue to recognize. Returns and credits are estimated at contract inception and updated at the end of each reporting period if additional information becomes available. Changes to our estimated variable consideration were not material for the periods presented.

Contract Balances

Timing of revenue recognition may differ from the timing of invoicing to customers. We record a receivable when revenue is recognized prior to invoicing, or unearned revenue when revenue is recognized subsequent to invoicing. For multi-year agreements, we generally invoice customers annually at the beginning of each annual coverage period. We record a receivable related to revenue recognized for multi-year on-premises licenses as we have an unconditional right to invoice and receive payment in the future related to those licenses.

As of June 30, 2019 and 2018, long-term accounts receivable, net of allowance for doubtful accounts, was $2.2 billion and $1.8 billion, respectively, and is included in other long-term assets in our consolidated balance sheets.

The allowance for doubtful accounts reflects our best estimate of probable losses inherent in the accounts receivable balance. We determine the allowance based on known troubled accounts, historical experience, and other currently available evidence.

Activity in the allowance for doubtful accounts was as follows:

 

(In millions)

 

 

 

 

 

 

 

Year Ended June 30,

 

 

2019

 

 

 

 

2018

 

 

 

2017

 

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

$

397

 

 

 

$

361

 

 

$

409

 

Charged to costs and other

 

 

153

 

 

 

 

134

 

 

 

58

 

Write-offs

 

 

(116

)

 

 

 

(98

)

 

 

(106

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

$

434

 

 

 

$

397

 

 

$

361

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Allowance for doubtful accounts included in our consolidated balance sheets:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30,

 

 

2019

 

 

 

2018

 

 

 

2017

 

 

 

 

 

 

 

 

 

 

 

Accounts receivable, net of allowance for doubtful accounts

 

$

411

 

 

$

377

 

 

$

345

 

Other long-term assets

 

 

23

 

 

 

20

 

 

 

16

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

434

 

 

$

397

 

 

$

361

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

58


PART II

Item 8

 

Unearned revenue comprises mainly unearned revenue related to volume licensing programs, which may include SA and cloud services. Unearned revenue is generally invoiced annually at the beginning of each contract period for multi-year agreements and recognized ratably over the coverage period. Unearned revenue also includes payments for consulting services to be performed in the future; LinkedIn subscriptions; Office 365 subscriptions; Xbox Live subscriptions; Windows 10 post-delivery support; Dynamics business solutions; Skype prepaid credits and subscriptions; and other offerings for which we have been paid in advance and earn the revenue when we transfer control of the product or service.

Refer to Note 14 – Unearned Revenue for further information, including unearned revenue by segment and changes in unearned revenue during the period.

Payment terms and conditions vary by contract type, although terms generally include a requirement of payment within 30 to 60 days. In instances where the timing of revenue recognition differs from the timing of invoicing, we have determined our contracts generally do not include a significant financing component. The primary purpose of our invoicing terms is to provide customers with simplified and predictable ways of purchasing our products and services, not to receive financing from our customers or to provide customers with financing. Examples include invoicing at the beginning of a subscription term with revenue recognized ratably over the contract period, and multi-year on-premises licenses that are invoiced annually with revenue recognized upfront.

Assets Recognized from Costs to Obtain a Contract with a Customer

We recognize an asset for the incremental costs of obtaining a contract with a customer if we expect the benefit of those costs to be longer than one year. We have determined that certain sales incentive programs meet the requirements to be capitalized. Total capitalized costs to obtain a contract were immaterial during the periods presented and are included in other current and long-term assets in our consolidated balance sheets.

We apply a practical expedient to expense costs as incurred for costs to obtain a contract with a customer when the amortization period would have been one year or less. These costs include our internal sales force compensation program and certain partner sales incentive programs as we have determined annual compensation is commensurate with annual sales activities.

Cost of Revenue

Cost of revenue includes: manufacturing and distribution costs for products sold and programs licensed; operating costs related to product support service centers and product distribution centers; costs incurred to include software on PCs sold by original equipment manufacturers (“OEM”), to drive traffic to our websites, and to acquire online advertising space; costs incurred to support and maintain online products and services, including datacenter costs and royalties; warranty costs; inventory valuation adjustments; costs associated with the delivery of consulting services; and the amortization of capitalized software development costs. Capitalized software development costs are amortized over the estimated lives of the products.

Product Warranty

We provide for the estimated costs of fulfilling our obligations under hardware and software warranties at the time the related revenue is recognized. For hardware warranties, we estimate the costs based on historical and projected product failure rates, historical and projected repair costs, and knowledge of specific product failures (if any). The specific hardware warranty terms and conditions vary depending upon the product sold and the country in which we do business, but generally include parts and labor over a period generally ranging from 90 days to three years. For software warranties, we estimate the costs to provide bug fixes, such as security patches, over the estimated life of the software. We regularly reevaluate our estimates to assess the adequacy of the recorded warranty liabilities and adjust the amounts as necessary.

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Research and Development

Research and development expenses include payroll, employee benefits, stock-based compensation expense, and other headcount-related expenses associated with product development. Research and development expenses also include third-party development and programming costs, localization costs incurred to translate software for international markets, and the amortization of purchased software code and services content. Such costs related to software development are included in research and development expense until the point that technological feasibility is reached, which for our software products, is generally shortly before the products are released to production. Once technological feasibility is reached, such costs are capitalized and amortized to cost of revenue over the estimated lives of the products.

Sales and Marketing

Sales and marketing expenses include payroll, employee benefits, stock-based compensation expense, and other headcount-related expenses associated with sales and marketing personnel, and the costs of advertising, promotions, trade shows, seminars, and other programs. Advertising costs are expensed as incurred. Advertising expense was $1.6 billion, $1.6 billion, and $1.5 billion in fiscal years 2019, 2018, and 2017, respectively.

Stock-Based Compensation

Compensation cost for stock awards, which include restricted stock units (“RSUs”) and performance stock units (“PSUs”), is measured at the fair value on the grant date and recognized as expense, net of estimated forfeitures, over the related service or performance period. The fair value of stock awards is based on the quoted price of our common stock on the grant date less the present value of expected dividends not received during the vesting period. We measure the fair value of PSUs using a Monte Carlo valuation model. Compensation cost for RSUs is recognized using the straight-line method and for PSUs is recognized using the accelerated method.

Compensation expense for the employee stock purchase plan (“ESPP”) is measured as the discount the employee is entitled to upon purchase and is recognized in the period of purchase.

Income Taxes

Income tax expense includes U.S. and international income taxes, and interest and penalties on uncertain tax positions. Certain income and expenses are not reported in tax returns and financial statements in the same year. The tax effect of such temporary differences is reported as deferred income taxes. Deferred tax assets are reported net of a valuation allowance when it is more likely than not that a tax benefit will not be realized. All deferred income taxes are classified as long-term in our consolidated balance sheets.

Financial Instruments

Investments

We consider all highly liquid interest-earning investments with a maturity of three months or less at the date of purchase to be cash equivalents. The fair values of these investments approximate their carrying values. In general, investments with original maturities of greater than three months and remaining maturities of less than one year are classified as short-term investments. Investments with maturities beyond one year may be classified as short-term based on their highly liquid nature and because such marketable securities represent the investment of cash that is available for current operations.

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Debt investments are classified as available-for-sale and realized gains and losses are recorded using the specific identification method. Changes in fair value, excluding other-than-temporary impairments, are recorded in OCI. Debt investments are impaired when a decline in fair value is judged to be other-than-temporary. Fair value is calculated based on publicly available market information or other estimates determined by management. We employ a systematic methodology on a quarterly basis that considers available quantitative and qualitative evidence in evaluating potential impairment of our investments. If the cost of an investment exceeds its fair value, we evaluate, among other factors, general market conditions, credit quality of debt instrument issuers, and the duration and extent to which the fair value is less than cost. We also evaluate whether we have plans to sell the security or it is more likely than not that we will be required to sell the security before recovery. In addition, we consider specific adverse conditions related to the financial health of and business outlook for the investee, including industry and sector performance, changes in technology, and operational and financing cash flow factors. Once a decline in fair value is determined to be other-than-temporary, an impairment charge is recorded in other income (expense), net and a new cost basis in the investment is established.

Equity investments with readily determinable fair values are measured at fair value. Equity investments without readily determinable fair values are measured using the equity method, or measured at cost with adjustments for observable changes in price or impairments (referred to as the measurement alternative). We perform a qualitative assessment on a quarterly basis and recognize an impairment if there are sufficient indicators that the fair value of the investment is less than carrying value. Changes in value are recorded in other income (expense), net.

We lend certain fixed-income and equity securities to increase investment returns. These transactions are accounted for as secured borrowings and the loaned securities continue to be carried as investments on our consolidated balance sheets. Cash and/or security interests are received as collateral for the loaned securities with the amount determined based upon the underlying security lent and the creditworthiness of the borrower. Cash received is recorded as an asset with a corresponding liability.

Derivatives

Derivative instruments are recognized as either assets or liabilities and measured at fair value. The accounting for changes in the fair value of a derivative depends on the intended use of the derivative and the resulting designation.

For derivative instruments designated as fair value hedges, gains and losses are recognized in other income (expense), net with offsetting gains and losses on the hedged items.

For derivative instruments designated as cash flow hedges, the effective portion of the gains and losses are initially reported as a component of OCI and subsequently recognized in revenue when the hedged exposure is recognized in revenue. Gains and losses on derivatives representing either hedge components excluded from the assessment of effectiveness or hedge ineffectiveness are recognized in other income (expense), net.

For derivative instruments that are not designated as hedges, gains and losses from changes in fair values are primarily recognized in other income (expense), net.

Fair Value Measurements

We account for certain assets and liabilities at fair value. The hierarchy below lists three levels of fair value based on the extent to which inputs used in measuring fair value are observable in the market. We categorize each of our fair value measurements in one of these three levels based on the lowest level input that is significant to the fair value measurement in its entirety. These levels are:

 

Level 1 – inputs are based upon unadjusted quoted prices for identical instruments in active markets. Our Level 1 investments include U.S. government securities, common and preferred stock, and mutual funds. Our Level 1 derivative assets and liabilities include those actively traded on exchanges.

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PART II

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Level 2 – inputs are based upon quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, and model-based valuation techniques (e.g. the Black-Scholes model) for which all significant inputs are observable in the market or can be corroborated by observable market data for substantially the full term of the assets or liabilities. Where applicable, these models project future cash flows and discount the future amounts to a present value using market-based observable inputs including interest rate curves, credit spreads, foreign exchange rates, and forward and spot prices for currencies. Our Level 2 investments include commercial paper, certificates of deposit, U.S. agency securities, foreign government bonds, mortgage- and asset-backed securities, corporate notes and bonds, and municipal securities. Our Level 2 derivative assets and liabilities primarily include certain over-the-counter option and swap contracts.

 

Level 3 – inputs are generally unobservable and typically reflect management’s estimates of assumptions that market participants would use in pricing the asset or liability. The fair values are therefore determined using model-based techniques, including option pricing models and discounted cash flow models. Our Level 3 assets and liabilities include investments in corporate notes and bonds, and goodwill and intangible assets, when they are recorded at fair value due to an impairment charge. Unobservable inputs used in the models are significant to the fair values of the assets and liabilities.

We measure equity investments without readily determinable fair values on a nonrecurring basis. The fair values of these investments are determined based on valuation techniques using the best information available, and may include quoted market prices, market comparables, and discounted cash flow projections.

Our other current financial assets and current financial liabilities have fair values that approximate their carrying values.

Inventories

Inventories are stated at average cost, subject to the lower of cost or net realizable value. Cost includes materials, labor, and manufacturing overhead related to the purchase and production of inventories. Net realizable value is the estimated selling price less estimated costs of completion, disposal, and transportation. We regularly review inventory quantities on hand, future purchase commitments with our suppliers, and the estimated utility of our inventory. If our review indicates a reduction in utility below carrying value, we reduce our inventory to a new cost basis through a charge to cost of revenue.

Property and Equipment

Property and equipment is stated at cost less accumulated depreciation, and depreciated using the straight-line method over the shorter of the estimated useful life of the asset or the lease term. The estimated useful lives of our property and equipment are generally as follows: computer software developed or acquired for internal use, three to seven years; computer equipment, two to three years; buildings and improvements, five to 15 years; leasehold improvements, three to 20 years; and furniture and equipment, one to 10 years. Land is not depreciated.

Leases

We determine if an arrangement is a lease at inception. Operating leases are included in operating lease right-of-use (“ROU”) assets, other current liabilities, and operating lease liabilities in our consolidated balance sheets. Finance leases are included in property and equipment, other current liabilities, and other long-term liabilities in our consolidated balance sheets.

ROU assets represent our right to use an underlying asset for the lease term and lease liabilities represent our obligation to make lease payments arising from the lease. Operating lease ROU assets and liabilities are recognized at commencement date based on the present value of lease payments over the lease term. As most of our leases do not provide an implicit rate, we generally use our incremental borrowing rate based on the estimated rate of interest for collateralized borrowing over a similar term of the lease payments at commencement date. The operating lease ROU asset also includes any lease payments made and excludes lease incentives. Our lease terms may include options to extend or terminate the lease when it is reasonably certain that we will exercise that option. Lease expense for lease payments is recognized on a straight-line basis over the lease term.

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PART II

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We have lease agreements with lease and non-lease components, which are generally accounted for separately. For certain equipment leases, such as vehicles, we account for the lease and non-lease components as a single lease component. Additionally, for certain equipment leases, we apply a portfolio approach to effectively account for the operating lease ROU assets and liabilities.

Goodwill

Goodwill is tested for impairment at the reporting unit level (operating segment or one level below an operating segment) on an annual basis (May 1 for us) and between annual tests if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying value.

Intangible Assets

Our intangible assets are subject to amortization and are amortized using the straight-line method over their estimated period of benefit, ranging from one to 20 years. We evaluate the recoverability of intangible assets periodically by taking into account events or circumstances that may warrant revised estimates of useful lives or that indicate the asset may be impaired.

Recent Accounting Guidance

Recently Adopted Accounting Guidance

Income Taxes – Intra-Entity Asset Transfers

In October 2016, the Financial Accounting Standards Board (“FASB”) issued new guidance requiring an entity to recognize the income tax consequences of an intra-entity transfer of an asset other than inventory when the transfer occurs, rather than when the asset has been sold to an outside party. We adopted the guidance effective July 1, 2018. Adoption of the guidance was applied using a modified retrospective approach through a cumulative-effect adjustment to retained earnings as of the effective date. We recorded a net cumulative-effect adjustment that resulted in an increase in retained earnings of $557 million, which reversed the previous deferral of income tax consequences and recorded new deferred tax assets from intra-entity transfers involving assets other than inventory, partially offset by a U.S. deferred tax liability related to global intangible low-taxed income (“GILTI”). Adoption of the standard resulted in an increase in long-term deferred tax assets of $2.8 billion, an increase in long-term deferred tax liabilities of $2.1 billion, and a reduction in other current assets of $152 million. Adoption of the standard had no impact on cash from or used in operating, financing, or investing on our consolidated cash flows statements.

Financial Instruments – Recognition, Measurement, Presentation, and Disclosure

In January 2016, the FASB issued a new standard related to certain aspects of recognition, measurement, presentation, and disclosure of financial instruments. Most prominent among the changes in the standard is the requirement for changes in the fair value of our equity investments, with certain exceptions, to be recognized through net income rather than OCI.

We adopted the standard effective July 1, 2018. Adoption of the standard was applied using a modified retrospective approach through a cumulative-effect adjustment from accumulated other comprehensive income (“AOCI”) to retained earnings as of the effective date, and we elected to measure equity investments without readily determinable fair values at cost with adjustments for observable changes in price or impairments. The cumulative-effect adjustment included any previously held unrealized gains and losses held in AOCI related to our equity investments carried at fair value as well as the impact of recording the fair value of certain equity investments carried at cost. The impact on our consolidated balance sheets upon adoption was not material. Adoption of the standard had no impact on cash from or used in operating, financing, or investing on our consolidated cash flows statements.

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Recent Accounting Guidance Not Yet Adopted

Financial Instruments – Targeted Improvements to Accounting for Hedging Activities

In August 2017, the FASB issued new guidance related to accounting for hedging activities. This guidance expands strategies that qualify for hedge accounting, changes how many hedging relationships are presented in the financial statements, and simplifies the application of hedge accounting in certain situations. The standard will be effective for us beginning July 1, 2019, with early adoption permitted for any interim or annual period before the effective date. Adoption of the standard will be applied using a modified retrospective approach through a cumulative-effect adjustment to retained earnings as of the effective date. We evaluated the impact of this standard on our consolidated financial statements, including accounting policies, processes, and systems, and do not expect the impact to be material upon adoption.

Financial Instruments – Credit Losses

In June 2016, the FASB issued a new standard to replace the incurred loss impairment methodology under current GAAP with a methodology that reflects expected credit losses and requires consideration of a broader range of reasonable and supportable information to inform credit loss estimates. We will be required to use a forward-looking expected credit loss model for accounts receivables, loans, and other financial instruments. Credit losses relating to available-for-sale debt securities will also be recorded through an allowance for credit losses rather than as a reduction in the amortized cost basis of the securities. The standard will be adopted upon the effective date for us beginning July 1, 2020. Adoption of the standard will be applied using a modified retrospective approach through a cumulative-effect adjustment to retained earnings as of the effective date to align our credit loss methodology with the new standard. We are currently evaluating the impact of this standard on our consolidated financial statements, including accounting policies, processes, and systems.

 

NOTE 2 — EARNINGS PER SHARE

Basic earnings per share (“EPS”) is computed based on the weighted average number of shares of common stock outstanding during the period. Diluted EPS is computed based on the weighted average number of shares of common stock plus the effect of dilutive potential common shares outstanding during the period using the treasury stock method. Dilutive potential common shares include outstanding stock options and stock awards.

The components of basic and diluted EPS were as follows:

 

(In millions, except earnings per share)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2019

 

 

2018

 

 

2017

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income available for common shareholders (A)

 

$

39,240

 

 

$

16,571

 

 

$

25,489

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Weighted average outstanding shares of common stock (B)

 

 

7,673

 

 

 

7,700

 

 

 

7,746

 

Dilutive effect of stock-based awards

 

 

80

 

 

 

94

 

 

 

86

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Common stock and common stock equivalents (C)

 

 

7,753

 

 

 

7,794

 

 

 

7,832

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Earnings Per Share

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic (A/B)

 

$

5.11

 

 

$

2.15

 

 

$

3.29

 

Diluted (A/C)

 

$

5.06

 

 

$

2.13

 

 

$

3.25

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Anti-dilutive stock-based awards excluded from the calculations of diluted EPS were immaterial during the periods presented.

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PART II

Item 8

 

NOTE 3 — OTHER INCOME (EXPENSE), NET

The components of other income (expense), net were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2019

 

 

2018

 

 

2017

 

 

 

 

 

Interest and dividends income

 

$

2,762

 

 

$

2,214

 

 

$

1,387

 

Interest expense

 

 

 (2,686

)

 

 

 (2,733

)

 

 

 (2,222

)

Net recognized gains on investments

 

 

648

 

 

 

2,399

 

 

 

2,583

 

Net gains (losses) on derivatives

 

 

144

 

 

 

(187

)

 

 

(510

)

Net losses on foreign currency remeasurements

 

 

(82

)

 

 

(218

)

 

 

(111

)

Other, net

 

 

(57

)

 

 

(59

)

 

 

(251

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

729

 

 

$

1,416

 

 

$

876

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net Recognized Gains (Losses) on Investments

Net recognized gains (losses) on debt investments were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2019

 

 

2018

 

 

2017

 

 

 

 

 

Realized gains from sales of available-for-sale securities

 

$

12

 

 

$

27

 

 

$

108

 

Realized losses from sales of available-for-sale securities

 

 

(93

)

 

 

(987

)

 

 

(162

)

Other-than-temporary impairments of investments

 

 

(16

)

 

 

(6

)

 

 

(14

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

(97

)

 

$

(966

)

 

$

 (68

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net recognized gains (losses) on equity investments were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2019

 

 

2018

 

 

2017

 

 

 

 

 

Net realized gains on investments sold

 

$

276

 

 

$

3,406

 

 

$

2,692

 

Net unrealized gains on investments still held

 

 

479

 

 

 

0

 

 

 

0

 

Impairments of investments

 

 

(10

)

 

 

(41

)

 

 

(41

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

745

 

 

$

3,365

 

 

$

2,651

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

65


PART II

Item 8

 

NOTE 4  INVESTMENTS

Investment Components

The components of investments were as follows:

 

(In millions)

 

Fair Value Level

 

 

Cost Basis

 

 

Unrealized

Gains

 

 

Unrealized

Losses

 

 

Recorded

Basis

 

 

Cash

and Cash Equivalents

 

Short-term

Investments

 

 

Equity

Investments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2019

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Changes in Fair Value Recorded in

Other Comprehensive Income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial paper

 

 

Level 2

 

 

$

2,211

 

 

$

0

 

 

$

0

 

 

$

2,211

 

 

$

1,773

 

 

$

438

 

 

$

0

 

Certificates of deposit

 

 

Level 2

 

 

 

2,018

 

 

 

0

 

 

 

0

 

 

 

2,018

 

 

 

1,430

 

 

 

588

 

 

 

0

 

U.S. government securities

 

 

Level 1

 

 

 

104,925

 

 

 

1,854

 

 

 

(104

)

 

 

106,675

 

 

 

769

 

 

 

105,906

 

 

 

0

 

U.S. agency securities

 

 

Level 2

 

 

 

988

 

 

 

0

 

 

 

0

 

 

 

988

 

 

 

698

 

 

 

290

 

 

 

0

 

Foreign government bonds

 

 

Level 2

 

 

 

6,350

 

 

 

4

 

 

 

(8

)

 

 

6,346

 

 

 

2,506

 

 

 

3,840

 

 

 

0

 

Mortgage- and asset-backed securities

 

 

Level 2

 

 

 

3,554

 

 

 

10

 

 

 

(3

)

 

 

3,561

 

 

 

0

 

 

 

3,561

 

 

 

0

 

Corporate notes and bonds

 

 

Level 2

 

 

 

7,437

 

 

 

111

 

 

 

(7

)

 

 

7,541

 

 

 

0

 

 

 

7,541

 

 

 

0

 

Corporate notes and bonds

 

 

Level 3

 

 

 

15

 

 

 

0

 

 

 

0

 

 

 

15

 

 

 

0

 

 

 

15

 

 

 

0

 

Municipal securities

 

 

Level 2

 

 

 

242

 

 

 

48

 

 

 

0

 

 

 

290

 

 

 

0

 

 

 

290

 

 

 

0

 

Municipal securities

 

 

Level 3

 

 

 

7

 

 

 

0

 

 

 

0

 

 

 

7

 

 

 

0

 

 

 

7

 

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total debt investments

 

 

 

 

 

$

127,747

 

 

$

2,027

 

 

$

(122

)

 

$

129,652

 

 

$

7,176

 

 

$

122,476

 

 

$

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Changes in Fair Value Recorded in

Net Income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Equity investments

 

 

Level 1

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

973

 

 

$

409

 

 

$

0

 

 

$

564

 

Equity investments

 

 

Other

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

2,085

 

 

 

0

 

 

 

0

 

 

 

2,085

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total equity investments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

3,058

 

 

$

409

 

 

$

0

 

 

$

2,649

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

3,771

 

 

$

3,771

 

 

$

0

 

 

$

0

 

Derivatives, net (a)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(13

)

 

 

0

 

 

 

(13

)

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

136,468

 

 

$

11,356

 

 

$

122,463

 

 

$

2,649

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

66


PART II

Item 8

 

(In millions)

 

Fair Value Level

 

 

Cost Basis

 

 

Unrealized

Gains

 

 

Unrealized

Losses

 

 

Recorded

Basis

 

 

Cash

and Cash

Equivalents

 

 

Short-term

Investments

 

 

Equity

Investments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2018

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Changes in Fair Value Recorded in

Other Comprehensive Income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Commercial paper

 

 

Level 2

 

 

$

2,513

 

 

$

0

 

 

$

0

 

 

$

2,513

 

 

$

2,215

 

 

$

298

 

 

$

0

 

Certificates of deposit

 

 

Level 2

 

 

 

2,058

 

 

 

0

 

 

 

0

 

 

 

2,058

 

 

 

1,865

 

 

 

193

 

 

 

0

 

U.S. government securities

 

 

Level 1

 

 

 

108,120

 

 

 

62

 

 

 

(1,167

)

 

 

107,015

 

 

 

2,280

 

 

 

104,735

 

 

 

0

 

U.S. agency securities

 

 

Level 2

 

 

 

1,742

 

 

 

0

 

 

 

0

 

 

 

1,742

 

 

 

1,398

 

 

 

344

 

 

 

0

 

Foreign government bonds

 

 

Level 1

 

 

 

22

 

 

 

0

 

 

 

0

 

 

 

22

 

 

 

0

 

 

 

22

 

 

 

0

 

Foreign government bonds

 

 

Level 2

 

 

 

5,063

 

 

 

1

 

 

 

(10

)

 

 

5,054

 

 

 

0

 

 

 

5,054

 

 

 

0

 

Mortgage- and asset-backed securities

 

 

Level 2

 

 

 

3,864

 

 

 

4

 

 

 

(13

)

 

 

3,855

 

 

 

0

 

 

 

3,855

 

 

 

0

 

Corporate notes and bonds

 

 

Level 2

 

 

 

6,929

 

 

 

21

 

 

 

(56

)

 

 

6,894

 

 

 

0

 

 

 

6,894

 

 

 

0

 

Corporate notes and bonds

 

 

Level 3

 

 

 

15

 

 

 

0

 

 

 

0

 

 

 

15

 

 

 

0

 

 

 

15

 

 

 

0

 

Municipal securities

 

 

Level 2

 

 

 

271

 

 

 

37

 

 

 

(1

)

 

 

307

 

 

 

0

 

 

 

307

 

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total debt investments

 

 

 

 

 

$

130,597

 

 

$

125

 

 

$

(1,247

)

 

$

129,475

 

 

$

7,758

 

 

$

121,717

 

 

$

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Equity investments

 

 

Level 1

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

533

 

 

$

246

 

 

$

0

 

 

$

287

 

Equity investments

 

 

Level 3

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

18

 

 

 

0

 

 

 

0

 

 

 

18

 

Equity investments

 

 

Other

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

1,558

 

 

 

0

 

 

 

1

 

 

 

1,557

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total equity investments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

2,109

 

 

$

246

 

 

$

1

 

 

$

1,862

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

3,942

 

 

$

3,942

 

 

$

0

 

 

$

0

 

Derivatives, net (a)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

104

 

 

 

0

 

 

 

104

 

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

$

135,630

 

 

$

11,946

 

 

$

121,822

 

 

$

1,862

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(a)

Refer to Note 5 – Derivatives for further information on the fair value of our derivative instruments.

 

Equity investments presented as “Other” in the tables above include investments without readily determinable fair values measured using the equity method or measured at cost with adjustments for observable changes in price or impairments, and investments measured at fair value using net asset value as a practical expedient which are not categorized in the fair value hierarchy. As of June 30, 2019 and 2018, equity investments without readily determinable fair values measured at cost with adjustments for observable changes in price or impairments were $1.2 billion and $697 million, respectively.

As of June 30, 2019, we had no collateral received under agreements for loaned securities. As of June 30, 2018, collateral received under agreements for loaned securities was $1.8 billion and primarily comprised U.S. government and agency securities.

Unrealized Losses on Debt Investments

Debt investments with continuous unrealized losses for less than 12 months and 12 months or greater and their related fair values were as follows:

 

 

 

Less than 12 Months

 

 

12 Months or Greater

 

 

 

 

 

Total
Unrealized
Losses

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(In millions)

 

Fair Value

 

 

Unrealized
Losses

 

 

Fair Value

 

 

Unrealized
Losses

 

 

Total
Fair Value

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2019

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. government and agency securities

 

$

1,491

 

 

$

(1

)

 

$

39,158

 

 

$

(103

)

 

$

40,649

 

 

$

(104

)

Foreign government bonds

 

 

25

 

 

 

0

 

 

 

77

 

 

 

(8

)

 

 

102

 

 

 

(8

)

Mortgage- and asset-backed securities

 

 

664

 

 

 

(1

)

 

 

378

 

 

 

(2

)

 

 

1,042

 

 

 

(3

)

Corporate notes and bonds

 

 

498

 

 

 

(3

)

 

 

376

 

 

 

(4

)

 

 

874

 

 

 

(7

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

2,678

 

 

$

 (5

)

 

$

39,989

 

 

$

 (117

)

 

$

42,667

 

 

$

 (122

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

67


PART II

Item 8

 

 

 

Less than 12 Months

 

 

12 Months or Greater

 

 

 

 

 

 

Total

Unrealized

Losses

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(In millions)

 

Fair Value

 

 

Unrealized

Losses

 

 

Fair Value

 

 

Unrealized

Losses

 

 

Total

Fair Value

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2018

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. government and agency securities

 

$

82,352

 

 

$

(1,064

)

 

$

4,459

 

 

$

(103

)

 

$

86,811

 

 

$

(1,167

)

Foreign government bonds

 

 

3,457

 

 

 

(7

)

 

 

13

 

 

 

(3

)

 

 

3,470

 

 

 

(10

)

Mortgage- and asset-backed securities

 

 

2,072

 

 

 

(9

)

 

 

96

 

 

 

(4

)

 

 

2,168

 

 

 

(13

)

Corporate notes and bonds

 

 

3,111

 

 

 

(43

)

 

 

301

 

 

 

(13

)

 

 

3,412

 

 

 

(56

)

Municipal securities

 

 

45

 

 

 

(1

)

 

 

0

 

 

 

0

 

 

 

45

 

 

 

(1

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

91,037

 

 

$

(1,124

)

 

$

4,869

 

 

$

 (123

)

 

$

95,906

 

 

$

(1,247

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Unrealized losses from fixed-income securities are primarily attributable to changes in interest rates. Management does not believe any remaining unrealized losses represent other-than-temporary impairments based on our evaluation of available evidence.

Debt Investment Maturities

 

(In millions)

 

Cost Basis

 

 

Estimated

Fair Value

 

 

 

 

 

 

 

June 30, 2019

 

 

 

 

 

 

 

 

 

 

 

Due in one year or less

 

$

53,200

 

 

$

53,124

 

Due after one year through five years

 

 

47,016

 

 

 

47,783

 

Due after five years through 10 years

 

 

26,658

 

 

 

27,824

 

Due after 10 years

 

 

873

 

 

 

921

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

127,747

 

 

$

129,652

 

 

 

 

 

 

 

 

 

 

 

NOTE 5 — DERIVATIVES

We use derivative instruments to manage risks related to foreign currencies, equity prices, interest rates, and credit; to enhance investment returns; and to facilitate portfolio diversification. Our objectives for holding derivatives include reducing, eliminating, and efficiently managing the economic impact of these exposures as effectively as possible. Our derivative programs include strategies that both qualify and do not qualify for hedge accounting treatment.

Foreign Currency

Certain forecasted transactions, assets, and liabilities are exposed to foreign currency risk. We monitor our foreign currency exposures daily to maximize the economic effectiveness of our foreign currency hedge positions. Option and forward contracts are used to hedge a portion of forecasted international revenue and are designated as cash flow hedging instruments. Principal currencies hedged include the euro, Japanese yen, British pound, Canadian dollar, and Australian dollar.

Foreign currency risks related to certain non-U.S. dollar denominated securities are hedged using foreign exchange forward contracts that are designated as fair value hedging instruments.

Certain options and forwards not designated as hedging instruments are also used to manage the variability in foreign exchange rates on certain balance sheet amounts and to manage other foreign currency exposures.

Equity

Securities held in our equity investments portfolio are subject to market price risk. Market price risk is managed relative to broad-based global and domestic equity indices using certain convertible preferred investments, options, futures, and swap contracts not designated as hedging instruments. In the past, to hedge our price risk, we also used and designated equity derivatives as hedging instruments, including puts, calls, swaps, and forwards.

68


PART II

Item 8

 

Other

Interest Rate

Securities held in our fixed-income portfolio are subject to different interest rate risks based on their maturities. We manage the average maturity of our fixed-income portfolio to achieve economic returns that correlate to certain broad-based fixed-income indices using exchange-traded option and futures contracts, and over-the-counter swap and option contracts, none of which are designated as hedging instruments.

In addition, we use “To Be Announced” forward purchase commitments of mortgage-backed assets to gain exposure to agency mortgage-backed securities. These meet the definition of a derivative instrument in cases where physical delivery of the assets is not taken at the earliest available delivery date.

Credit

Our fixed-income portfolio is diversified and consists primarily of investment-grade securities. We use credit default swap contracts, not designated as hedging instruments, to manage credit exposures relative to broad-based indices and to facilitate portfolio diversification. We use credit default swaps as they are a low-cost method of managing exposure to individual credit risks or groups of credit risks.

Credit-Risk-Related Contingent Features

Certain of our counterparty agreements for derivative instruments contain provisions that require our issued and outstanding long-term unsecured debt to maintain an investment grade credit rating and require us to maintain minimum liquidity of $1.0 billion. To the extent we fail to meet these requirements, we will be required to post collateral, similar to the standard convention related to over-the-counter derivatives. As of June 30, 2019, our long-term unsecured debt rating was AAA, and cash investments were in excess of $1.0 billion. As a result, no collateral was required to be posted.

The following table presents the notional amounts of our outstanding derivative instruments measured in U.S. dollar equivalents:

 

(In millions)

 

June 30,

2019

 

 

June 30,

2018

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Designated as Hedging Instruments

 

 

 

 

 

 

 

 

 

 

 

Foreign exchange contracts sold

 

$

6,034

 

 

$

11,101

 

 

 

 

Not Designated as Hedging Instruments

 

 

 

 

 

 

 

 

 

 

 

Foreign exchange contracts purchased

 

 

14,889

 

 

 

9,425

 

Foreign exchange contracts sold

 

 

15,614

 

 

 

13,374

 

Equity contracts purchased

 

 

680

 

 

 

49

 

Equity contracts sold

 

 

5

 

 

 

5

 

Other contracts purchased

 

 

1,327

 

 

 

878

 

Other contracts sold

 

 

451

 

 

 

472

 

 

 

 

 

 

 

 

 

 

69


PART II

Item 8

 

Fair Values of Derivative Instruments

The following table presents our derivative instruments:

 

 

 

Derivative

 

Derivative

 

Derivative

 

Derivative

 

(In millions)

 

Assets

 

Liabilities

 

Assets

 

Liabilities

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30,

2019

 

June 30,

2018

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Changes in Fair Value Recorded in Other Comprehensive Income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Designated as Hedging Instruments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Foreign exchange contracts

 

$

0

 

 

$

0

 

 

$

174

 

 

$

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Changes in Fair Value Recorded in Net Income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Designated as Hedging Instruments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Foreign exchange contracts

 

 

0

 

 

 

(93

)

 

 

95

 

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Not Designated as Hedging Instruments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Foreign exchange contracts

 

 

204

 

 

 

(172

)

 

 

256

 

 

 

(197

)

Equity contracts

 

 

38

 

 

 

0

 

 

 

2

 

 

 

(7

)

Other contracts

 

 

8

 

 

 

(7

)

 

 

11

 

 

 

(3

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross amounts of derivatives

 

 

250

 

 

 

(272

)

 

 

538

 

 

 

(207

)

Gross amounts of derivatives offset in the balance sheet

 

 

(113

)

 

 

114

 

 

 

(152

)

 

 

153

 

Cash collateral received

 

 

0

 

 

 

(78

)

 

 

0

 

 

 

(235

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net amounts of derivatives

 

$

137

 

 

$

(236

)

 

$

386

 

 

$

(289

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Reported as

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Short-term investments

 

$

(13

)

 

$

0

 

 

$

104

 

 

$

0

 

Other current assets

 

 

146

 

 

 

0

 

 

 

260

 

 

 

0

 

Other long-term assets

 

 

4

 

 

 

0

 

 

 

22

 

 

 

0

 

Other current liabilities

 

 

0

 

 

 

(221

)

 

 

0

 

 

 

(288

)

Other long-term liabilities

 

 

0

 

 

 

(15

)

 

 

0

 

 

 

(1

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

137

 

 

$

(236

)

 

$

386

 

 

$

(289

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross derivative assets and liabilities subject to legally enforceable master netting agreements for which we have elected to offset were $247 million and $272 million, respectively, as of June 30, 2019, and $533 million and $207 million, respectively, as of June 30, 2018.

The following table presents the fair value of our derivatives instruments on a gross basis:

 

(In millions)

 

Level 1

 

 

 

Level 2

 

 

Level 3

 

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2019

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Derivative assets

 

$

0

 

 

$

247

 

 

$

3

 

 

$

250

 

Derivative liabilities

 

 

0

 

 

 

(272

)

 

 

0

 

 

 

(272

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2018

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Derivative assets

 

 

1

 

 

 

535

 

 

 

2

 

 

 

538

 

Derivative liabilities

 

 

(1

)

 

 

(206

)

 

 

0

 

 

 

(207

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

70


PART II

Item 8

 

Fair Value Hedge Gains (Losses)

We recognized in other income (expense), net the following gains (losses) on contracts designated as fair value hedges and their related hedged items:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2019

 

 

2018

 

 

2017

 

 

 

 

 

Foreign Exchange Contracts

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Derivatives

 

$

38

 

 

$

25

 

 

$

441

 

Hedged items

 

 

130

 

 

 

78

 

 

 

 (386

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total amount of ineffectiveness

 

$

168

 

 

$

103

 

 

$

55

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Equity Contracts

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Derivatives

 

$

0

 

 

$

(324

)

 

$

(74

)

Hedged items

 

 

0

 

 

 

324

 

 

 

74

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total amount of ineffectiveness

 

$

0

 

 

$

0

 

 

$

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Amount of equity contracts excluded from effectiveness assessment

 

$

0

 

 

$

80

 

 

$

 (80

)

 

 

 

 

 

 

 

 

 

 

Cash Flow Hedge Gains (Losses)

We recognized the following gains (losses) on foreign exchange contracts designated as cash flow hedges:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2019

 

 

2018

 

 

2017

 

 

 

 

 

Effective Portion

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gains recognized in other comprehensive income (loss), net of tax of $1, $11, and $4

 

$

159

 

 

$

219

 

 

$

328

 

Gains reclassified from accumulated other comprehensive income (loss) into revenue

 

 

341

 

 

 

185

 

 

 

555

 

 

 

 

 

Amount Excluded from Effectiveness Assessment and Ineffective Portion

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Losses recognized in other income (expense), net

 

 

 (64

)

 

 

 (255

)

 

 

 (389

)

 

 

We do not have any net derivative gains included in AOCI as of June 30, 2019 that will be reclassified into earnings within the following 12 months. No significant amounts of gains (losses) were reclassified from AOCI into earnings as a result of forecasted transactions that failed to occur during fiscal year 2019.

Non-designated Derivative Gains (Losses)

We recognized in other income (expense), net the following gains (losses) on derivatives not designated as hedging instruments:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2019

 

 

2018

 

 

2017

 

 

 

 

 

Foreign exchange contracts

 

$

(97

)

 

$

(33

)

 

$

(117

)

Equity contracts

 

 

3

 

 

 

(87

)

 

 

(114

)

Other contracts

 

 

35

 

 

 

(17

)

 

 

(3

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

 (59

)

 

$

 (137

)

 

$

 (234

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

71


PART II

Item 8

 

NOTE 6 INVENTORIES

The components of inventories were as follows:

 

(In millions)

 

 

 

 

 

 

 

June 30,

 

2019

 

 

2018

 

 

 

 

Raw materials

 

$

399

 

 

$

655

 

Work in process

 

 

53

 

 

 

54

 

Finished goods

 

 

1,611

 

 

 

1,953

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

2,063

 

 

$

2,662

 

 

 

 

 

 

 

 

 

 

 

NOTE 7 — PROPERTY AND EQUIPMENT

The components of property and equipment were as follows:

 

(In millions)

 

 

 

 

 

 

 

June 30,

 

2019

 

 

2018

 

 

 

 

Land

 

$

1,540

 

 

$

1,254

 

Buildings and improvements

 

 

26,288

 

 

 

20,604

 

Leasehold improvements

 

 

5,316

 

 

 

4,735

 

Computer equipment and software

 

 

33,823

 

 

 

27,633

 

Furniture and equipment

 

 

4,840

 

 

 

4,457

 

 

 

 

 

 

 

 

 

 

 

 

 

Total, at cost

 

 

71,807

 

 

 

58,683

 

Accumulated depreciation

 

 

(35,330

)

 

 

(29,223

)

 

 

 

 

 

 

 

 

 

 

 

 

Total, net

 

$

36,477

 

 

$

29,460

 

 

 

 

 

 

 

 

 

 

 

During fiscal years 2019, 2018, and 2017, depreciation expense was $9.7 billion, $7.7 billion, and $6.1 billion, respectively. We have committed $4.0 billion for the construction of new buildings, building improvements, and leasehold improvements as of June 30, 2019.

 

NOTE 8 — BUSINESS COMBINATIONS

GitHub, Inc.

On October 25, 2018, we acquired GitHub, Inc. (“GitHub”), a software development platform, in a $7.5 billion stock transaction (inclusive of total cash payments of $1.3 billion in respect of vested GitHub equity awards and an indemnity escrow). The acquisition is expected to empower developers to achieve more at every stage of the development lifecycle, accelerate enterprise use of GitHub, and bring Microsoft’s developer tools and services to new audiences. The financial results of GitHub have been included in our consolidated financial statements since the date of the acquisition. GitHub is reported as part of our Intelligent Cloud segment.

72


PART II

Item 8

 

The allocation of the purchase price to goodwill was completed as of June 30, 2019. The major classes of assets and liabilities to which we allocated the purchase price were as follows: 

 

(In millions)

 

 

 

 

 

 

 

 

 

Cash, cash equivalents, and short-term investments

 

$

234

 

Goodwill

 

 

5,497

 

Intangible assets

 

 

1,267

 

Other assets

 

 

143

 

Other liabilities

 

 

(217

)

 

 

 

 

 

 

 

 

 

 

Total

 

$

6,924

 

 

 

 

 

 

The goodwill recognized in connection with the acquisition is primarily attributable to anticipated synergies from future growth and is not expected to be deductible for tax purposes. We assigned the goodwill to our Intelligent Cloud segment.

Following are the details of the purchase price allocated to the intangible assets acquired:

 

(In millions)

 

Amount

 

 

Weighted

Average Life

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Customer-related

 

$

648

 

 

 

8 years

 

Technology-based

 

 

447

 

 

 

5 years

 

Marketing-related

 

 

170

 

 

 

10 years

 

Contract-based

 

 

2

 

 

 

2 years

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

1,267

 

 

 

7 years

 

 

 

 

 

 

 

 

 

Transactions recognized separately from the purchase price allocation were approximately $600 million, primarily related to equity awards recognized as expense over the related service period.

LinkedIn Corporation

On December 8, 2016, we completed our acquisition of all issued and outstanding shares of LinkedIn Corporation (“LinkedIn”), the world’s largest professional network on the Internet, for a total purchase price of $27.0 billion. The purchase price consisted primarily of cash of $26.9 billion. The acquisition is expected to accelerate the growth of LinkedIn, Office 365, and Dynamics 365. The financial results of LinkedIn have been included in our consolidated financial statements since the date of the acquisition.

73


PART II

Item 8

 

The allocation of the purchase price to goodwill was completed as of June 30, 2017. The major classes of assets and liabilities to which we allocated the purchase price were as follows: 

 

(In millions)

 

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

1,328

 

Short-term investments

 

 

2,110

 

Other current assets

 

 

697

 

Property and equipment

 

 

1,529

 

Intangible assets

 

 

7,887

 

Goodwill (a)

 

 

16,803

 

Short-term debt (b)

 

 

(1,323

)

Other current liabilities

 

 

(1,117

)

Deferred income taxes

 

 

(774

)

Other

 

 

(131

)

 

 

 

 

 

 

 

 

 

 

Total purchase price

 

$

27,009

 

 

 

 

 

 

 

(a)

Goodwill was assigned to our Productivity and Business Processes segment. The goodwill was primarily attributed to increased synergies that are expected to be achieved from the integration of LinkedIn. None of the goodwill is expected to be deductible for income tax purposes.

(b)

Convertible senior notes issued by LinkedIn on November 12, 2014, substantially all of which were redeemed after our acquisition of LinkedIn. The remaining $18 million of notes are not redeemable and are included in long-term debt in our consolidated balance sheets. Refer to Note 11 – Debt for further information.

Following are the details of the purchase price allocated to the intangible assets acquired:

 

(In millions)

 

Amount

 

 

Weighted

Average Life

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Customer-related

 

$

3,607

 

 

 

7 years

 

Marketing-related (trade names)

 

 

2,148

 

 

 

20 years

 

Technology-based

 

 

2,109

 

 

 

3 years

 

Contract-based

 

 

23

 

 

 

5 years

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fair value of intangible assets acquired

 

$

7,887

 

 

 

9 years

 

 

 

 

 

 

 

 

 

Our consolidated income statements include the following revenue and operating loss attributable to LinkedIn since the date of acquisition:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

 

 

2017

 

 

 

 

 

 

 

Revenue

 

 

$

2,271

 

Operating loss

 

 

 

(924

)

 

 

 

 

 

Following are the supplemental consolidated financial results of Microsoft Corporation on an unaudited pro forma basis, as if the acquisition had been consummated on July 1, 2015:

 

(In millions, except per share amounts)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

 

2017

 

 

 

2016

 

 

 

 

 

 

 

 

 

 

Revenue

 

$

98,291

 

 

$

94,490

 

Net income

 

 

25,179

 

 

 

19,128

 

Diluted earnings per share

 

 

3.21

 

 

 

2.38

 

 

 

 

 

 

 

 

 

 

 

These pro forma results were based on estimates and assumptions, which we believe are reasonable. They are not the results that would have been realized had we been a combined company during the periods presented and are not necessarily indicative of our consolidated results of operations in future periods. The pro forma results include adjustments related to purchase accounting, primarily amortization of intangible assets. Acquisition costs and other nonrecurring charges were immaterial and are included in the earliest period presented.

74


PART II

Item 8

 

Other

During fiscal year 2019, we completed 19 additional acquisitions for $1.6 billion, substantially all of which were paid in cash. These entities have been included in our consolidated results of operations since their respective acquisition dates.

NOTE 9 — GOODWILL

Changes in the carrying amount of goodwill were as follows:

 

(In millions)

 

June 30,

2017

 

Acquisitions

 

Other

 

June 30,

2018

 

Acquisitions

 

Other

 

June 30,
2019

 

 

 

 

 

 

 

 

 

 

Productivity and Business Processes

 

 

$

23,739

 

 

$

72

 

 

$

12

 

 

$

23,823

 

 

$

514

 

 

$

(60

)

 

$

24,277

 

Intelligent Cloud

 

 

 

5,555

 

 

 

164

 

 

 

(16

)

 

 

5,703

 

 

 

5,605

(a)

 

 

43

(a)

 

 

11,351

 

More Personal Computing

 

 

 

5,828

 

 

 

394

 

 

 

(65

)

 

 

6,157

 

 

 

289

 

 

 

(48

)

 

 

6,398

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

 

$

35,122

 

 

$

630

 

 

$

 (69

)

 

$

35,683

 

 

$

6,408

 

 

$

(65

)

 

$

42,026

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(a)

Includes goodwill of $5.5 billion related to GitHub. See Note 8 – Business Combinations for further information.

The measurement periods for the valuation of assets acquired and liabilities assumed end as soon as information on the facts and circumstances that existed as of the acquisition dates becomes available, but do not exceed 12 months. Adjustments in purchase price allocations may require a change in the amounts allocated to goodwill during the periods in which the adjustments are determined.

Any change in the goodwill amounts resulting from foreign currency translations and purchase accounting adjustments are presented as “Other” in the table above. Also included in “Other” are business dispositions and transfers between segments due to reorganizations, as applicable.

Goodwill Impairment

We test goodwill for impairment annually on May 1 at the reporting unit level, primarily using a discounted cash flow methodology with a peer-based, risk-adjusted weighted average cost of capital. We believe use of a discounted cash flow approach is the most reliable indicator of the fair values of the businesses.

No instances of impairment were identified in our May 1, 2019, May 1, 2018, or May 1, 2017 tests. As of June 30, 2019 and 2018, accumulated goodwill impairment was $11.3 billion.

NOTE 10 INTANGIBLE ASSETS

The components of intangible assets, all of which are finite-lived, were as follows:

 

(In millions)

 

Gross
Carrying
Amount

 

 

Accumulated
Amortization

 

 

Net Carrying
Amount

 

 

Gross
Carrying
Amount

 

 

Accumulated
Amortization

 

 

Net Carrying
Amount

 

 

 

 

 

 

 

 

 

 

 

June 30,

 

 

 

 

 

 

 

2019

 

 

 

 

 

 

 

 

2018

 

 

 

 

 

 

 

 

Technology-based

 

$

7,691

 

 

$

(5,771

)

 

$

1,920

 

 

$

7,220

 

 

$

(5,018

)

 

$

2,202

 

Customer-related

 

 

4,709

 

 

 

(1,785

)

 

 

2,924

 

 

 

4,031

 

 

 

(1,205

)

 

 

2,826

 

Marketing-related

 

 

4,165

 

 

 

(1,327

)

 

 

2,838

 

 

 

4,006

 

 

 

(1,071

)

 

 

2,935

 

Contract-based

 

 

574

 

 

 

(506

)

 

 

68

 

 

 

679

 

 

 

(589

)

 

 

90

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

17,139

(a)

 

$

 (9,389

)

 

$

7,750

 

 

$

15,936

 

 

$

 (7,883

)

 

$

8,053

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(a)

Includes intangible assets of $1.3 billion related to GitHub. See Note 8 – Business Combinations for further information.

No material impairments of intangible assets were identified during fiscal years 2019, 2018, or 2017. We estimate that we have no significant residual value related to our intangible assets.

75


PART II

Item 8

 

The components of intangible assets acquired during the periods presented were as follows:

 

(In millions)

 

Amount

 

 

Weighted

Average Life

 

 

Amount

 

 

Weighted

Average Life

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2019

 

 

 

 

 

2018

 

 

 

 

 

 

 

 

 

Technology-based

 

$

814

 

 

 

5 years

 

 

$

178

 

 

 

4 years

 

Marketing-related

 

 

177

 

 

 

10 years

 

 

 

14

 

 

 

5 years

 

Contract-based

 

 

7

 

 

 

3 years

 

 

 

14

 

 

 

4 years

 

Customer-related

 

 

710

 

 

 

8 years

 

 

 

13

 

 

 

5 years

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

1,708

 

 

 

7 years

 

 

$

219

 

 

 

5 years

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Intangible assets amortization expense was $1.9 billion, $2.2 billion, and $1.7 billion for fiscal years 2019, 2018, and 2017, respectively.

The following table outlines the estimated future amortization expense related to intangible assets held as of June 30, 2019:

 

(In millions)

 

 

 

 

 

 

 

 

Year Ending June 30,

 

 

 

 

 

 

2020

 

$

1,488

 

2021

 

 

1,282

 

2022

 

 

1,187

 

2023

 

 

1,053

 

2024

 

 

737

 

Thereafter

 

 

2,003

 

 

 

 

 

 

 

 

Total

 

$

7,750

 

 

 

 

 

 

 

NOTE 11 — DEBT

Short-term Debt

As of June 30, 2019 and 2018, we had no commercial paper issued or outstanding. Effective August 31, 2018, we terminated our credit facilities, which served as back-up for our commercial paper program.

Long-term Debt

As of June 30, 2019, the total carrying value and estimated fair value of our long-term debt, including the current portion, were $72.2 billion and $78.9 billion, respectively. As of June 30, 2018, the total carrying value and estimated fair value of our long-term debt, including the current portion, were $76.2 billion and $77.5 billion, respectively. These estimated fair values are based on Level 2 inputs.

76


PART II

Item 8

 

The components of our long-term debt, including the current portion, and the associated interest rates were as follows:

 

(In millions, except interest rates)

 

Face Value
June 30,

2019

 

 

Face Value
June 30,

2018

 

 

 

Stated

Interest

Rate

 

 

 

Effective

Interest

Rate

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Notes

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

November 3, 2018

 

$

0

 

 

$

1,750

 

 

 

1.300%

 

 

 

1.396%

 

December 6, 2018

 

 

0

 

 

 

1,250

 

 

 

1.625%

 

 

 

1.824%

 

June 1, 2019

 

 

0

 

 

 

1,000

 

 

 

4.200%

 

 

 

4.379%

 

August 8, 2019

 

 

2,500

 

 

 

2,500

 

 

 

1.100%

 

 

 

1.203%

 

November 1, 2019

 

 

18

 

 

 

18

 

 

 

0.500%

 

 

 

0.500%

 

February 6, 2020

 

 

1,500

 

 

 

1,500

 

 

 

1.850%

 

 

 

1.952%

 

February 12, 2020

 

 

1,500

 

 

 

1,500

 

 

 

1.850%

 

 

 

1.935%

 

October 1, 2020

 

 

1,000

 

 

 

1,000

 

 

 

3.000%

 

 

 

3.137%

 

November 3, 2020

 

 

2,250

 

 

 

2,250

 

 

 

2.000%

 

 

 

2.093%

 

February 8, 2021

 

 

500

 

 

 

500

 

 

 

4.000%

 

 

 

4.082%

 

August 8, 2021

 

 

2,750

 

 

 

2,750

 

 

 

1.550%

 

 

 

1.642%

 

December 6, 2021 (a)

 

 

1,994

 

 

 

2,044

 

 

 

2.125%

 

 

 

2.233%

 

February 6, 2022

 

 

1,750

 

 

 

1,750

 

 

 

2.400%

 

 

 

2.520%

 

February 12, 2022

 

 

1,500

 

 

 

1,500

 

 

 

2.375%

 

 

 

2.466%

 

November 3, 2022

 

 

1,000

 

 

 

1,000

 

 

 

2.650%

 

 

 

2.717%

 

November 15, 2022

 

 

750

 

 

 

750

 

 

 

2.125%

 

 

 

2.239%

 

May 1, 2023

 

 

1,000

 

 

 

1,000

 

 

 

2.375%

 

 

 

2.465%

 

August 8, 2023

 

 

1,500

 

 

 

1,500

 

 

 

2.000%

 

 

 

2.101%

 

December 15, 2023

 

 

1,500

 

 

 

1,500

 

 

 

3.625%

 

 

 

3.726%

 

February 6, 2024

 

 

2,250

 

 

 

2,250

 

 

 

2.875%

 

 

 

3.041%

 

February 12, 2025

 

 

2,250

 

 

 

2,250

 

 

 

2.700%

 

 

 

2.772%

 

November 3, 2025

 

 

3,000

 

 

 

3,000

 

 

 

3.125%

 

 

 

3.176%

 

August 8, 2026

 

 

4,000

 

 

 

4,000

 

 

 

2.400%

 

 

 

2.464%

 

February 6, 2027

 

 

4,000

 

 

 

4,000

 

 

 

3.300%

 

 

 

3.383%

 

December 6, 2028 (a)

 

 

1,993

 

 

 

2,044

 

 

 

3.125%

 

 

 

3.218%

 

May 2, 2033 (a)

 

 

626

 

 

 

642

 

 

 

2.625%

 

 

 

2.690%

 

February 12, 2035

 

 

1,500

 

 

 

1,500

 

 

 

3.500%

 

 

 

3.604%

 

November 3, 2035

 

 

1,000

 

 

 

1,000

 

 

 

4.200%

 

 

 

4.260%

 

August 8, 2036

 

 

2,250

 

 

 

2,250

 

 

 

3.450%

 

 

 

3.510%

 

February 6, 2037

 

 

2,500

 

 

 

2,500

 

 

 

4.100%

 

 

 

4.152%

 

June 1, 2039

 

 

750

 

 

 

750

 

 

 

5.200%

 

 

 

5.240%

 

October 1, 2040

 

 

1,000

 

 

 

1,000

 

 

 

4.500%

 

 

 

4.567%

 

February 8, 2041

 

 

1,000

 

 

 

1,000

 

 

 

5.300%

 

 

 

5.361%

 

November 15, 2042

 

 

900

 

 

 

900

 

 

 

3.500%

 

 

 

3.571%

 

May 1, 2043

 

 

500

 

 

 

500

 

 

 

3.750%

 

 

 

3.829%

 

December 15, 2043

 

 

500

 

 

 

500

 

 

 

4.875%

 

 

 

4.918%

 

February 12, 2045

 

 

1,750

 

 

 

1,750

 

 

 

3.750%

 

 

 

3.800%

 

November 3, 2045

 

 

3,000

 

 

 

3,000

 

 

 

4.450%

 

 

 

4.492%

 

August 8, 2046

 

 

4,500

 

 

 

4,500

 

 

 

3.700%

 

 

 

3.743%

 

February 6, 2047

 

 

3,000

 

 

 

3,000

 

 

 

4.250%

 

 

 

4.287%

 

February 12, 2055

 

 

2,250

 

 

 

2,250

 

 

 

4.000%

 

 

 

4.063%

 

November 3, 2055

 

 

1,000

 

 

 

1,000

 

 

 

4.750%

 

 

 

4.782%

 

August 8, 2056

 

 

2,250

 

 

 

2,250

 

 

 

3.950%

 

 

 

4.033%

 

February 6, 2057

 

 

2,000

 

 

 

2,000

 

 

 

4.500%

 

 

 

4.528%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

72,781

 

 

$

76,898

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(a)

Euro-denominated debt securities.

The notes in the table above are senior unsecured obligations and rank equally with our other senior unsecured debt outstanding. Interest on these notes is paid semi-annually, except for the euro-denominated debt securities on which interest is paid annually. Cash paid for interest on our debt for fiscal years 2019, 2018, and 2017 was $2.4 billion, $2.4 billion, and $1.6 billion, respectively. As of June 30, 2019 and 2018, the aggregate debt issuance costs and unamortized discount associated with our long-term debt, including the current portion, were $603 million and $658 million, respectively.

77


PART II

Item 8

 

Maturities of our long-term debt for each of the next five years and thereafter are as follows:

 

(In millions)

 

 

 

 

 

 

 

 

Year Ending June 30,

 

 

 

 

 

 

2020

 

$

5,518

 

2021

 

 

3,750

 

2022

 

 

7,994

 

2023

 

 

2,750

 

2024

 

 

5,250

 

Thereafter

 

 

47,519

 

 

 

 

 

Total

 

$

72,781

 

 

 

 

 

 

 

NOTE 12 — INCOME TAXES

Tax Cuts and Jobs Act

On December 22, 2017, the Tax Cuts and Jobs Act (“TCJA”) was enacted into law, which significantly changed existing U.S. tax law and included numerous provisions that affect our business, such as imposing a one-time transition tax on deemed repatriation of deferred foreign income, reducing the U.S. federal statutory tax rate, and adopting a territorial tax system. In fiscal year 2018, the TCJA required us to incur a transition tax on deferred foreign income not previously subject to U.S. income tax at a rate of 15.5% for foreign cash and certain other net current assets, and 8% on the remaining income. The TCJA reduced the U.S. federal statutory tax rate from 35% to 21% effective January 1, 2018. In addition, the TCJA subjected us to a tax on our GILTI effective July 1, 2018.

Under GAAP, we can make an accounting policy election to either treat taxes due on the GILTI inclusion as a current period expense or factor such amounts into our measurement of deferred taxes. We elected the deferred method, under which we recorded the corresponding deferred tax assets and liabilities on our consolidated balance sheets.

During fiscal year 2018, we recorded a net charge of $13.7 billion related to the enactment of the TCJA, due to the impact of the one-time transition tax on the deemed repatriation of deferred foreign income of $17.9 billion, offset in part by the impact of changes in the tax rate of $4.2 billion, primarily on deferred tax assets and liabilities. During the second quarter of fiscal year 2019, we recorded additional tax expense of $157 million, which related to completing our provisional accounting for GILTI deferred taxes pursuant to Securities and Exchange Commission Staff Accounting Bulletin No. 118.

In the fourth quarter of fiscal year 2019, in response to the TCJA and recently issued regulations, we transferred certain intangible properties held by our foreign subsidiaries to the U.S. and Ireland. The transfers of intangible properties resulted in a $2.6 billion net income tax benefit recorded in the fourth quarter of fiscal year 2019, as the value of future tax deductions exceeded the current tax liability from foreign jurisdictions and U.S. GILTI tax.

78


PART II

Item 8

 

Provision for Income Taxes 

The components of the provision for income taxes were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2019

 

 

2018

 

 

2017

 

 

 

 

 

Current Taxes

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. federal

 

$

4,718

 

 

$

19,764

 

 

$

2,739

 

U.S. state and local

 

 

662

 

 

 

934

 

 

 

30

 

Foreign

 

 

5,531

 

 

 

4,348

 

 

 

2,472

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Current taxes

 

$

10,911

 

 

$

25,046

 

 

$

5,241

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deferred Taxes

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. federal

 

$

(5,647

)

 

$

(4,292

)

 

$

(554

)

U.S. state and local

 

 

(1,010

)

 

 

(458

)

 

 

269

 

Foreign

 

 

194

 

 

 

(393

)

 

 

(544

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deferred taxes

 

$

(6,463

)

 

$

(5,143

)

 

$

(829

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Provision for income taxes

 

$

4,448

 

 

$

19,903

 

 

$

4,412

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. and foreign components of income before income taxes were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2019

 

 

2018

 

 

2017

 

 

 

 

 

U.S.

 

$

15,799

 

 

$

11,527

 

 

$

6,843

 

Foreign

 

 

27,889

 

 

 

24,947

 

 

 

23,058

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Income before income taxes

 

$

43,688

 

 

$

36,474

 

 

$

29,901

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Effective Tax Rate

The items accounting for the difference between income taxes computed at the U.S. federal statutory rate and our effective rate were as follows:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2019

 

 

2018

 

 

2017

 

 

 

 

 

Federal statutory rate

 

 

21.0%

 

 

 

28.1%

 

 

 

35.0%

 

Effect of:

 

 

 

 

 

 

 

 

 

 

 

 

Foreign earnings taxed at lower rates

 

 

(4.1)%

 

 

 

(7.8)%

 

 

 

(11.6)%

 

Impact of the enactment of the TCJA

 

 

0.4%

 

 

 

37.7%

 

 

 

0%

 

Phone business losses

 

 

0%

 

 

 

0%

 

 

 

(5.7)%

 

Impact of intangible property transfers

 

 

(5.9)%

 

 

 

0%

 

 

 

0%

 

Foreign-derived intangible income deduction

 

 

(1.4)%

 

 

 

0%

 

 

 

0%

 

Research and development credit

 

 

(1.1)%

 

 

 

(1.3)%

 

 

 

(0.9)%

 

Excess tax benefits relating to stock-based compensation

 

 

(2.2)%

 

 

 

(2.5)%

 

 

 

(2.1)%

 

Interest, net

 

 

1.0%

 

 

 

1.2%

 

 

 

1.4%

 

Other reconciling items, net

 

 

2.5%

 

 

 

(0.8)%

 

 

 

(1.3)%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Effective rate

 

 

10.2%

 

 

 

54.6%

 

 

 

14.8%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

79


PART II

Item 8

 

The decrease from the federal statutory rate in fiscal year 2019 is primarily due to a $2.6 billion net income tax benefit related to intangible property transfers, and earnings taxed at lower rates in foreign jurisdictions resulting from producing and distributing our products and services through our foreign regional operations centers in Ireland, Singapore, and Puerto Rico. The increase from the federal statutory rate in fiscal year 2018 is primarily due to the net charge related to the enactment of the TCJA in the second quarter of fiscal year 2018, offset in part by earnings taxed at lower rates in foreign jurisdictions. The decrease from the federal statutory rate in fiscal year 2017 is primarily due to earnings taxed at lower rates in foreign jurisdictions. Our foreign regional operating centers in Ireland, Singapore and Puerto Rico, which are taxed at rates lower than the U.S. rate, generated 82%, 87%, and 76% of our foreign income before tax in fiscal years 2019, 2018, and 2017, respectively. Other reconciling items, net consists primarily of tax credits, GILTI, and U.S. state income taxes. In fiscal years 2019, 2018, and 2017, there were no individually significant other reconciling items.

The decrease in our effective tax rate for fiscal year 2019 compared to fiscal year 2018 was primarily due to the net charge related to the enactment of the TCJA in the second quarter of fiscal year 2018, and a $2.6 billion net income tax benefit in the fourth quarter of fiscal year 2019 related to intangible property transfers. The increase in our effective tax rate for fiscal year 2018 compared to fiscal year 2017 was primarily due to the net charge related to the enactment of the TCJA and the realization of tax benefits attributable to previous Phone business losses in fiscal year 2017.

The components of the deferred income tax assets and liabilities were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30,

 

2019

 

 

2018

 

 

 

 

Deferred Income Tax Assets

 

 

 

 

 

 

 

 

 

 

 

Stock-based compensation expense

 

$

406

 

 

$

460

 

Accruals, reserves, and other expenses

 

 

2,287

 

 

 

1,832

 

Loss and credit carryforwards

 

 

3,518

 

 

 

3,369

 

Depreciation and amortization

 

 

7,046

 

 

 

351

 

Leasing liabilities

 

 

1,594

 

 

 

1,427

 

Unearned revenue

 

 

475

 

 

 

0

 

Other

 

 

367

 

 

 

56

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deferred income tax assets

 

 

15,693

 

 

 

7,495

 

Less valuation allowance

 

 

 (3,214

)

 

 

 (3,186

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deferred income tax assets, net of valuation allowance

 

$

12,479

 

 

$

4,309

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deferred Income Tax Liabilities

 

 

 

 

 

 

 

 

 

 

 

Unrealized gain on investments and debt

 

$

(738

)

 

$

0

 

Unearned revenue

 

 

(30

)

 

 

(639

)

Depreciation and amortization

 

 

0

 

 

 

(1,164

)

Leasing assets

 

 

(1,510

)

 

 

(1,366

)

Deferred GILTI tax liabilities

 

 

(2,607

)

 

 

(61

)

Other

 

 

(291

)

 

 

(251

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deferred income tax liabilities

 

$

(5,176

)

 

$

(3,481

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net deferred income tax assets (liabilities)

 

$

7,303

 

 

$

828

 

 

 

 

 

 

 

 

 

 

 

 

 

Reported As

 

 

 

 

 

 

 

 

 

 

 

Other long-term assets

 

$

7,536

 

 

$

1,369

 

Long-term deferred income tax liabilities

 

 

(233

)

 

 

(541

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net deferred income tax assets (liabilities)

 

$

7,303

 

 

$

828

 

 

 

 

 

 

 

 

 

 

Deferred income tax balances reflect the effects of temporary differences between the carrying amounts of assets and liabilities and their tax bases and are stated at enacted tax rates expected to be in effect when the taxes are paid or recovered.

80


PART II

Item 8

 

As of June 30, 2019, we had federal, state and foreign net operating loss carryforwards of $978 million, $770 million, and $11.6 billion, respectively. The federal and state net operating loss carryforwards will expire in various years from fiscal 2020 through 2039, if not utilized. The majority of our foreign net operating loss carryforwards do not expire. Certain acquired net operating loss carryforwards are subject to an annual limitation, but are expected to be realized with the exception of those which have a valuation allowance.

The valuation allowance disclosed in the table above relates to the foreign net operating loss carryforwards and other net deferred tax assets that may not be realized.

Income taxes paid, net of refunds, were $8.4 billion, $5.5 billion, and $2.4 billion in fiscal years 2019, 2018, and 2017, respectively.

Uncertain Tax Positions

Gross unrecognized tax benefits related to uncertain tax positions as of June 30, 2019, 2018, and 2017, were $13.1 billion, $12.0 billion, and $11.7 billion, respectively, which were primarily included in long-term income taxes in our consolidated balance sheets. If recognized, the resulting tax benefit would affect our effective tax rates for fiscal years 2019, 2018, and 2017 by $12.0 billion, $11.3 billion, and $10.2 billion, respectively.

As of June 30, 2019, 2018, and 2017, we had accrued interest expense related to uncertain tax positions of $3.4 billion, $3.0 billion, and $2.3 billion, respectively, net of income tax benefits. The provision for (benefit from) income taxes for fiscal years 2019, 2018, and 2017 included interest expense related to uncertain tax positions of $515 million, $688 million, and $399 million, respectively, net of income tax benefits.

The aggregate changes in the gross unrecognized tax benefits related to uncertain tax positions were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2019

 

 

2018

 

 

2017

 

 

 

 

 

Beginning unrecognized tax benefits

 

$

11,961

 

 

$

11,737

 

 

$

10,164

 

Decreases related to settlements

 

 

(316

)

 

 

(193

)

 

 

(4

)

Increases for tax positions related to the current year

 

 

2,106

 

 

 

1,445

 

 

 

1,277

 

Increases for tax positions related to prior years

 

 

508

 

 

 

151

 

 

 

397

 

Decreases for tax positions related to prior years

 

 

(1,113

)

 

 

(1,176

)

 

 

(49

)

Decreases due to lapsed statutes of limitations

 

 

0

 

 

 

(3

)

 

 

(48

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Ending unrecognized tax benefits

 

$

13,146

 

 

$

11,961

 

 

$

11,737

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

We settled a portion of the Internal Revenue Service (“IRS”) audit for tax years 2004 to 2006 in fiscal year 2011. In February 2012, the IRS withdrew its 2011 Revenue Agents Report related to unresolved issues for tax years 2004 to 2006 and reopened the audit phase of the examination. We also settled a portion of the IRS audit for tax years 2007 to 2009 in fiscal year 2016, and a portion of the IRS audit for tax years 2010 to 2013 in fiscal year 2018. We remain under audit for tax years 2004 to 2013. We expect the IRS to begin an examination of tax years 2014 to 2017 within the next 12 months.

As of June 30, 2019, the primary unresolved issues for the IRS audits relate to transfer pricing, which could have a material impact on our consolidated financial statements when the matters are resolved. We believe our allowances for income tax contingencies are adequate. We have not received a proposed assessment for the unresolved issues and do not expect a final resolution of these issues in the next 12 months. Based on the information currently available, we do not anticipate a significant increase or decrease to our tax contingencies for these issues within the next 12 months.

We are subject to income tax in many jurisdictions outside the U.S. Our operations in certain jurisdictions remain subject to examination for tax years 1996 to 2018, some of which are currently under audit by local tax authorities. The resolution of each of these audits is not expected to be material to our consolidated financial statements.

 

NOTE 13 RESTRUCTURING CHARGES

In June 2017, management approved a sales and marketing restructuring plan. In fiscal year 2017, we recorded employee severance expenses of $306 million primarily related to this sales and marketing restructuring plan. The actions associated with this restructuring plan were completed as of June 30, 2018.

81


PART II

Item 8

 

 

 

NOTE 14 — UNEARNED REVENUE

Unearned revenue by segment was as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

June 30,

 

2019

 

 

2018

 

 

 

 

Productivity and Business Processes

 

$

16,831

 

 

$

14,864

 

Intelligent Cloud

 

 

16,988

 

 

 

14,706

 

More Personal Computing

 

 

3,387

 

 

 

3,150

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

37,206

 

 

$

32,720

 

 

 

 

 

 

 

 

 

 

 

Changes in unearned revenue were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30, 2019

 

 

 

 

 

 

 

 

Balance, beginning of period

 

 

$

32,720

 

Deferral of revenue

 

 

 

69,493

 

Recognition of unearned revenue

 

 

 

(65,007

)

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

 

$

37,206

 

 

 

 

 

 

 

 

Revenue allocated to remaining performance obligations represents contracted revenue that has not yet been recognized (“contracted not recognized revenue”), which includes unearned revenue and amounts that will be invoiced and recognized as revenue in future periods. Contracted not recognized revenue was $91 billion as of June 30, 2019, of which we expect to recognize approximately 50% of the revenue over the next 12 months and the remainder thereafter. Many customers are committing to our products and services for longer contract terms, which is increasing the percentage of contracted revenue that will be recognized beyond the next 12 months.

NOTE 15 LEASES

We have operating and finance leases for datacenters, corporate offices, research and development facilities, retail stores, and certain equipment. Our leases have remaining lease terms of 1 year to 20 years, some of which include options to extend the leases for up to 5 years, and some of which include options to terminate the leases within 1 year.

The components of lease expense were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2019

 

 

 

2018

 

 

 

2017

 

 

 

 

 

 

 

 

 

 

 

Operating lease cost

 

$

1,707

 

 

$

1,585

 

 

$

1,412

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Finance lease cost:

 

 

 

 

 

 

 

 

 

 

 

 

Amortization of right-of-use assets

 

$

370

 

 

$

243

 

 

$

104

 

Interest on lease liabilities

 

 

247

 

 

 

175

 

 

 

68

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total finance lease cost

 

$

617

 

 

$

418

 

 

$

172

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

82


PART II

Item 8

 

Supplemental cash flow information related to leases was as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2019

 

 

 

2018

 

 

 

2017

 

 

 

 

 

 

 

 

 

 

 

Cash paid for amounts included in the measurement of lease liabilities:

 

 

 

 

 

 

 

 

 

 

 

 

Operating cash flows from operating leases

 

$

1,670

 

 

$

1,522

 

 

$

1,157

 

Operating cash flows from finance leases

 

 

247

 

 

 

175

 

 

 

68

 

Financing cash flows from finance leases

 

 

221

 

 

 

144

 

 

 

46

 

 

 

 

 

 

 

 

 

 

 

Right-of-use assets obtained in exchange for lease obligations:

 

 

 

 

 

 

 

 

 

 

 

 

Operating leases

 

 

2,303

 

 

 

1,571

 

 

 

1,270

 

Finance leases

 

 

2,532

 

 

 

1,933

 

 

 

1,773

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Supplemental balance sheet information related to leases was as follows:

 

(In millions, except lease term and discount rate)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 June 30,

 

2019

 

 

2018

 

 

 

 

Operating Leases

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating lease right-of-use assets

 

$

7,379

 

 

$

6,686

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other current liabilities

 

$

1,515

 

 

$

1,399

 

Operating lease liabilities

 

 

6,188

 

 

 

5,568

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total operating lease liabilities

 

$

7,703

 

 

$

6,967

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Finance Leases

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Property and equipment, at cost

 

$

7,041

 

 

$

4,543

 

Accumulated depreciation

 

 

(774

)

 

 

(404

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Property and equipment, net

 

$

6,267

 

 

$

4,139

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other current liabilities

 

$

317

 

 

$

176

 

Other long-term liabilities

 

 

6,257

 

 

 

4,125

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total finance lease liabilities

 

$

6,574

 

 

$

4,301

 

 

 

 

 

 

 

 

 

 

Weighted Average Remaining Lease Term

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating leases

 

 

7 years

 

 

 

7 years

 

Finance leases

 

 

13 years

 

 

 

13 years

 

 

 

 

 

 

 

 

 

 

Weighted Average Discount Rate

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating leases

 

 

3.0%

 

 

 

2.7%

 

Finance leases

 

 

4.6%

 

 

 

5.2%

 

 

 

 

 

 

 

 

 

 

 

Maturities of lease liabilities were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ending June 30,

 

Operating Leases

 

 

Finance Leases

 

 

 

 

2020

 

$

1,678

 

 

$

591

 

2021

 

 

1,438

 

 

 

616

 

2022

 

 

1,235

 

 

 

626

 

2023

 

 

1,036

 

 

 

631

 

2024

 

 

839

 

 

 

641

 

Thereafter

 

 

2,438

 

 

 

5,671

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total lease payments

 

 

8,664

 

 

 

8,776

 

Less imputed interest

 

 

(961

)

 

 

(2,202

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

7,703

 

 

$

6,574

 

 

 

 

 

 

 

 

 

 

 

83


PART II

Item 8

 

As of June 30, 2019, we have additional operating and finance leases, primarily for datacenters, that have not yet commenced of $2.3 billion and $6.1 billion, respectively. These operating and finance leases will commence between fiscal year 2020 and fiscal year 2022 with lease terms of 1 year to 15 years.

NOTE 16 — CONTINGENCIES

Patent and Intellectual Property Claims

There were 44 patent infringement cases pending against Microsoft as of June 30, 2019, none of which are material individually or in aggregate.

Antitrust, Unfair Competition, and Overcharge Class Actions

Antitrust and unfair competition class action lawsuits were filed against us in British Columbia, Ontario, and Quebec, Canada. All three have been certified on behalf of Canadian indirect purchasers who acquired licenses for Microsoft operating system software and/or productivity application software between 1998 and 2010.

The trial of the British Columbia action commenced in May 2016. Following a mediation, the parties agreed to a global settlement of all three Canadian actions, and submitted the proposed settlement agreement to the courts in all three jurisdictions for approval. The final settlement has been approved by the courts in British Columbia, Ontario, and Quebec, and the claims administration process will commence.

Other Antitrust Litigation and Claims

China State Administration for Industry and Commerce Investigation

In 2014, Microsoft was informed that China’s State Agency for Market Regulation (“SAMR”) (formerly State Administration for Industry and Commerce) had begun a formal investigation relating to China’s Anti-Monopoly Law, and the SAMR conducted onsite inspections of Microsoft offices in Beijing, Shanghai, Guangzhou, and Chengdu. The SAMR has presented its preliminary views as to certain possible violations of China's Anti-Monopoly Law, and discussions are expected to continue.

Product-Related Litigation

U.S. Cell Phone Litigation

Microsoft Mobile Oy, a subsidiary of Microsoft, along with other handset manufacturers and network operators, is a defendant in 40 lawsuits filed in the Superior Court for the District of Columbia by individual plaintiffs who allege that radio emissions from cellular handsets caused their brain tumors and other adverse health effects. We assumed responsibility for these claims in our agreement to acquire Nokia’s Devices and Services business and have been substituted for the Nokia defendants. Nine of these cases were filed in 2002 and are consolidated for certain pre-trial proceedings; the remaining cases are stayed. In a separate 2009 decision, the Court of Appeals for the District of Columbia held that adverse health effect claims arising from the use of cellular handsets that operate within the U.S. Federal Communications Commission radio frequency emission guidelines (“FCC Guidelines”) are pre-empted by federal law. The plaintiffs allege that their handsets either operated outside the FCC Guidelines or were manufactured before the FCC Guidelines went into effect. The lawsuits also allege an industry-wide conspiracy to manipulate the science and testing around emission guidelines.

In 2013, the defendants in the consolidated cases moved to exclude the plaintiffs’ expert evidence of general causation on the basis of flawed scientific methodologies. In 2014, the trial court granted in part and denied in part the defendants’ motion to exclude the plaintiffs’ general causation experts. The defendants filed an interlocutory appeal to the District of Columbia Court of Appeals challenging the standard for evaluating expert scientific evidence. In October 2016, the Court of Appeals issued its decision adopting the standard advocated by the defendants and remanding the cases to the trial court for further proceedings under that standard. The plaintiffs have filed supplemental expert evidence, portions of which the defendants have moved to strike. In August 2018, the trial court issued an order striking portions of the plaintiffs’ expert reports. A hearing is expected to be scheduled in the second half of calendar year 2019.

84


PART II

Item 8

 

Employment-Related Litigation

Moussouris v. Microsoft

Current and former female Microsoft employees in certain engineering and information technology roles brought this class action in federal court in Seattle in 2015, alleging systemic gender discrimination in pay and promotions. The plaintiffs moved to certify the class in October 2017. Microsoft filed an opposition in January 2018, attaching an expert report showing no statistically significant disparity in pay and promotions between similarly situated men and women. In June 2018, the court denied the plaintiffs’ motion for class certification. Plaintiffs sought an interlocutory appeal to the U.S. Court of Appeals for the Ninth Circuit, which was granted in September 2018. Oral argument is scheduled for October 2019.

Other Contingencies

We also are subject to a variety of other claims and suits that arise from time to time in the ordinary course of our business. Although management currently believes that resolving claims against us, individually or in aggregate, will not have a material adverse impact on our consolidated financial statements, these matters are subject to inherent uncertainties and management’s view of these matters may change in the future.

As of June 30, 2019, we accrued aggregate legal liabilities of $386 million. While we intend to defend these matters vigorously, adverse outcomes that we estimate could reach approximately $1.0 billion in aggregate beyond recorded amounts are reasonably possible. Were unfavorable final outcomes to occur, there exists the possibility of a material adverse impact on our consolidated financial statements for the period in which the effects become reasonably estimable.

NOTE 17 STOCKHOLDERS’ EQUITY

Shares Outstanding

Shares of common stock outstanding were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2019

 

 

2018

 

 

2017

 

 

 

 

 

Balance, beginning of year

 

 

7,677

 

 

 

7,708

 

 

 

7,808

 

Issued

 

 

116

 

 

 

68

 

 

 

70

 

Repurchased

 

 

(150

)

 

 

(99

)

 

 

(170

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of year

 

 

7,643

 

 

 

7,677

 

 

 

7,708

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Share Repurchases

On September 16, 2013, our Board of Directors approved a share repurchase program (“2013 Share Repurchase Program”) authorizing up to $40.0 billion in share repurchases. The 2013 Share Repurchase Program became effective on October 1, 2013, and was completed on December 22, 2016.

On September 20, 2016, our Board of Directors approved a share repurchase program authorizing up to an additional $40.0 billion in share repurchases (“2016 Share Repurchase Program”). This share repurchase program commenced on December 22, 2016 following completion of the 2013 Share Repurchase Program, has no expiration date, and may be suspended or discontinued at any time without notice. As of June 30, 2019, $11.4 billion remained of the 2016 Share Repurchase Program.

85


PART II

Item 8

 

We repurchased the following shares of common stock under the share repurchase programs:

 

(In millions)

 

Shares

 

 

Amount

 

 

Shares

 

 

Amount

 

 

Shares

 

 

Amount

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2019

 

 

2018

 

 

2017

 

 

 

 

 

 

 

 

First Quarter

 

 

24

 

 

$

2,600

 

 

 

22

 

 

$

1,600

 

 

 

63

 

 

$

3,550

 

Second Quarter

 

 

57

 

 

 

6,100

 

 

 

22

 

 

 

1,800

 

 

 

59

 

 

 

3,533

 

Third Quarter

 

 

36

 

 

 

3,899

 

 

 

34

 

 

 

3,100

 

 

 

25

 

 

 

1,600

 

Fourth Quarter

 

 

33

 

 

 

4,200

 

 

 

21

 

 

 

2,100

 

 

 

23

 

 

 

1,600

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

 

150

 

 

$

16,799

 

 

 

99

 

 

$

8,600

 

 

 

170

 

 

$

10,283

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Shares repurchased in the first and second quarter of fiscal year 2017 were under the 2013 Share Repurchase Program. All other shares repurchased were under the 2016 Share Repurchase Program. The above table excludes shares repurchased to settle employee tax withholding related to the vesting of stock awards of $2.7 billion, $2.1 billion, and $1.5 billion for fiscal years 2019, 2018, and 2017, respectively. All share repurchases were made using cash resources.

Dividends

Our Board of Directors declared the following dividends:

 

Declaration Date

Record Date

 

 

Payment Date

 

Dividend

Per Share

 

 

Amount

 

 

 

 

 

Fiscal Year 2019

 

 

 

 

 

 

 

 

 (In millions)

 

 

 

 

 

 

September 18, 2018

 

 

November 15, 2018

 

 

 

December 13, 2018

 

 

$

0.46

 

 

$

3,544

 

November 28, 2018

 

 

February 21, 2019

 

 

 

March 14, 2019

 

 

 

0.46

 

 

 

3,526

 

March 11, 2019

 

 

May 16, 2019

 

 

 

June 13, 2019

 

 

 

0.46

 

 

 

3,521

 

June 12, 2019

 

 

August 15, 2019

 

 

 

September 12, 2019

 

 

 

0.46

 

 

 

3,516

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

 

 

 

 

 

 

 

 

$

1.84

 

 

$

14,107

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fiscal Year 2018

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

September 19, 2017

 

 

November 16, 2017

 

 

 

December 14, 2017

 

 

$

0.42

 

 

$

3,238

 

November 29, 2017

 

 

February 15, 2018

 

 

 

March 8, 2018

 

 

 

0.42

 

 

 

3,232

 

March 12, 2018

 

 

May 17, 2018

 

 

 

June 14, 2018

 

 

 

0.42

 

 

 

3,226

 

June 13, 2018

 

 

August 16, 2018

 

 

 

September 13, 2018

 

 

 

0.42

 

 

 

3,220

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

 

 

 

 

 

 

 

 

$

1.68

 

 

$

12,916

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

The dividend declared on June 12, 2019 was included in other current liabilities as of June 30, 2019.

 

86


PART II

Item 8

 

NOTE 18 — ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS)

The following table summarizes the changes in accumulated other comprehensive income (loss) by component:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2019

 

 

2018

 

 

2017

 

 

 

 

 

Derivatives

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

$

173

 

 

$

134

 

 

$

352

 

Unrealized gains, net of tax of $2, $11, and $4

 

 

160

 

 

 

218

 

 

 

328

 

Reclassification adjustments for gains included in revenue

 

 

(341

)

 

 

(185

)

 

 

(555

)

Tax expense included in provision for income taxes

 

 

8

 

 

 

6

 

 

 

9

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Amounts reclassified from accumulated other comprehensive income (loss)

 

 

(333

)

 

 

(179

)

 

 

(546

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net change related to derivatives, net of tax of $(6), $5, and $(5)

 

 

(173

)

 

 

39

 

 

 

(218

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

$

0

 

 

$

173

 

 

$

134

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Investments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

$

(850

)

 

$

1,825

 

 

$

2,941

 

Unrealized gains (losses), net of tax of $616, $(427), and $267

 

 

2,331

 

 

 

(1,146

)

 

 

517

 

Reclassification adjustments for (gains) losses included in other income (expense), net

 

 

93

 

 

 

(2,309

)

 

 

(2,513

)

Tax expense (benefit) included in provision for income taxes

 

 

(19

)

 

 

738

 

 

 

880

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Amounts reclassified from accumulated other comprehensive income (loss)

 

 

74

 

 

 

(1,571

)

 

 

(1,633

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net change related to investments, net of tax of $635, $(1,165), and $(613)

 

 

2,405

 

 

 

(2,717

)

 

 

(1,116

)

Cumulative effect of accounting changes

 

 

(67

)

 

 

42

 

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

$

1,488

 

 

$

(850

)

 

$

1,825

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Translation Adjustments and Other

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

$

 (1,510

)

 

$

 (1,332

)

 

$

 (1,499

)

Translation adjustments and other, net of tax effects of $(1), $0, and $9

 

 

(318

)

 

 

(178

)

 

 

167

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

$

(1,828

)

 

$

(1,510

)

 

$

(1,332

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Accumulated other comprehensive income (loss), end of period

 

$

(340

)

 

$

(2,187

)

 

$

627

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

NOTE 19 — EMPLOYEE STOCK AND SAVINGS PLANS

We grant stock-based compensation to employees and directors. As of June 30, 2019, an aggregate of 327 million shares were authorized for future grant under our stock plans. Awards that expire or are canceled without delivery of shares generally become available for issuance under the plans. We issue new shares of Microsoft common stock to satisfy vesting of awards granted under our stock plans. We also have an ESPP for all eligible employees.

Stock-based compensation expense and related income tax benefits were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2019

 

 

2018

 

 

2017

 

 

 

 

 

Stock-based compensation expense

 

$

4,652

 

 

$

3,940

 

 

$

3,266

 

Income tax benefits related to stock-based compensation

 

 

816

 

 

 

823

 

 

 

1,066

 

 

 

87


PART II

Item 8

 

Stock Plans

Stock awards entitle the holder to receive shares of Microsoft common stock as the award vests. Stock awards generally vest over a four or five-year service period.

Executive Incentive Plan

Under the Executive Incentive Plan, the Compensation Committee approves stock awards to executive officers and certain senior executives. RSUs generally vest ratably over a four-year service period. PSUs generally vest over a three-year performance period. The number of shares the PSU holder receives is based on the extent to which the corresponding performance goals have been achieved.

Activity for All Stock Plans

The fair value of stock awards was estimated on the date of grant using the following assumptions:

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2019

 

 

2018

 

 

2017

 

 

 

 

 

Dividends per share (quarterly amounts)

 

 

 $0.42 - $0.46

 

 

 

 $0.39 - $0.42

 

 

 

 $0.36 - $0.39

 

Interest rates

 

 

1.8% - 3.1%

 

 

 

1.7% - 2.9%

 

 

 

1.2% - 2.2%

 

 

 

During fiscal year 2019, the following activity occurred under our stock plans:

 

Shares

 

 

Weighted

Average

Grant-Date

Fair Value

 

 

 

 

 

(In millions)

 

 

 

 

 

Stock Awards

 

 

 

 

Nonvested balance, beginning of year

 

 

174

 

 

$

57.85

 

Granted (a)

 

 

63

 

 

 

107.02

 

Vested

 

 

(77

)

 

 

57.08

 

Forfeited

 

 

(13

)

 

 

69.35

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Nonvested balance, end of year

 

 

147

 

 

$

78.49

 

 

 

 

 

 

 

 

 

 

 

(a)

Includes 2 million, 3 million, and 2 million of PSUs granted at target and performance adjustments above target levels for fiscal years 2019, 2018, and 2017, respectively.

As of June 30, 2019, there was approximately $8.6 billion of total unrecognized compensation costs related to stock awards. These costs are expected to be recognized over a weighted average period of 3 years. The weighted average grant-date fair value of stock awards granted was $107.02, $75.88, and $55.64 for fiscal years 2019, 2018, and 2017, respectively. The fair value of stock awards vested was $8.7 billion, $6.6 billion, and $4.8 billion, for fiscal years 2019, 2018, and 2017, respectively.

Employee Stock Purchase Plan

We have an ESPP for all eligible employees. Shares of our common stock may be purchased by employees at three-month intervals at 90% of the fair market value on the last trading day of each three-month period. Employees may purchase shares having a value not exceeding 15% of their gross compensation during an offering period. Employees purchased the following shares during the periods presented:

 

(Shares in millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2019

 

 

2018

 

 

2017

 

 

 

 

 

Shares purchased

 

 

11

 

 

 

13

 

 

 

13

 

Average price per share

 

$

104.85

 

 

$

76.40

 

 

$

56.36

 

 

 

 

As of June 30, 2019, 105 million shares of our common stock were reserved for future issuance through the ESPP.

88


PART II

Item 8

 

Savings Plan

We have savings plans in the U.S. that qualify under Section 401(k) of the Internal Revenue Code, and a number of savings plans in international locations. Eligible U.S. employees may contribute a portion of their salary into the savings plans, subject to certain limitations. We contribute fifty cents for each dollar a participant contributes into the plans, with a maximum employer contribution of 50% of the IRS contribution limit for the calendar year. Employer-funded retirement benefits for all plans were $877 million, $807 million, and $734 million in fiscal years 2019, 2018, and 2017, respectively, and were expensed as contributed.

NOTE 20 — SEGMENT INFORMATION AND GEOGRAPHIC DATA

In its operation of the business, management, including our chief operating decision maker, who is also our Chief Executive Officer, reviews certain financial information, including segmented internal profit and loss statements prepared on a basis not consistent with GAAP. During the periods presented, we reported our financial performance based on the following segments: Productivity and Business Processes, Intelligent Cloud, and More Personal Computing.

Our reportable segments are described below.

Productivity and Business Processes

Our Productivity and Business Processes segment consists of products and services in our portfolio of productivity, communication, and information services, spanning a variety of devices and platforms. This segment primarily comprises:

 

Office Commercial, including Office 365 subscriptions and Office licensed on-premises, comprising Office, Exchange, SharePoint, Microsoft Teams, Office 365 Security and Compliance, and Skype for Business, and related Client Access Licenses (“CALs”).

 

Office Consumer, including Office 365 subscriptions and Office licensed on-premises, and Office Consumer Services, including Skype, Outlook.com, and OneDrive.

 

LinkedIn, including Talent Solutions, Marketing Solutions, and Premium Subscriptions.

 

Dynamics business solutions, including Dynamics 365, a set of cloud-based applications across ERP and CRM, Dynamics ERP on-premises, and Dynamics CRM on-premises.

Intelligent Cloud

Our Intelligent Cloud segment consists of our public, private, and hybrid server products and cloud services that can power modern business. This segment primarily comprises:

 

Server products and cloud services, including Microsoft SQL Server, Windows Server, Visual Studio, System Center, and related CALs, GitHub, and Azure.

 

Enterprise Services, including Premier Support Services and Microsoft Consulting Services.

More Personal Computing

Our More Personal Computing segment consists of products and services geared towards harmonizing the interests of end users, developers, and IT professionals across all devices. This segment primarily comprises:

 

Windows, including Windows OEM licensing and other non-volume licensing of the Windows operating system; Windows Commercial, comprising volume licensing of the Windows operating system, Windows cloud services, and other Windows commercial offerings; patent licensing; Windows Internet of Things (“IoT”); and MSN advertising.

 

Devices, including Microsoft Surface, PC accessories, and other intelligent devices.

 

Gaming, including Xbox hardware and Xbox software and services, comprising Xbox Live transactions, subscriptions, cloud services, and advertising (“Xbox Live”), video games, and third-party video game royalties.

 

Search.

89


PART II

Item 8

 

Revenue and costs are generally directly attributed to our segments. However, due to the integrated structure of our business, certain revenue recognized and costs incurred by one segment may benefit other segments. Revenue from certain contracts is allocated among the segments based on the relative value of the underlying products and services, which can include allocation based on actual prices charged, prices when sold separately, or estimated costs plus a profit margin. Cost of revenue is allocated in certain cases based on a relative revenue methodology. Operating expenses that are allocated primarily include those relating to marketing of products and services from which multiple segments benefit and are generally allocated based on relative gross margin.

In addition, certain costs incurred at a corporate level that are identifiable and that benefit our segments are allocated to them. These allocated costs include costs of: legal, including settlements and fines; information technology; human resources; finance; excise taxes; field selling; shared facilities services; and customer service and support. Each allocation is measured differently based on the specific facts and circumstances of the costs being allocated. Certain corporate-level activity is not allocated to our segments, including restructuring expenses.

Segment revenue and operating income were as follows during the periods presented:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

 

2019

 

 

 

2018

 

 

 

2017

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Revenue

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Productivity and Business Processes

 

$

41,160

 

 

$

35,865

 

 

$

29,870

 

Intelligent Cloud

 

 

38,985

 

 

 

32,219

 

 

 

27,407

 

More Personal Computing

 

 

45,698

 

 

 

42,276

 

 

 

39,294

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

125,843

 

 

$

110,360

 

 

$

96,571

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating Income (Loss)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Productivity and Business Processes

 

$

16,219

 

 

$

12,924

 

 

$

11,389

 

Intelligent Cloud

 

 

13,920

 

 

 

11,524

 

 

 

9,127

 

More Personal Computing

 

 

12,820

 

 

 

10,610

 

 

 

8,815

 

Corporate and Other

 

 

0

 

 

 

0

 

 

 

(306

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

42,959

 

 

$

35,058

 

 

$

29,025

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Corporate and Other operating loss comprised restructuring expenses.

 

No sales to an individual customer or country other than the United States accounted for more than 10% of revenue for fiscal years 2019, 2018, or 2017. Revenue, classified by the major geographic areas in which our customers were located, was as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2019

 

 

2018

 

 

2017

 

 

 

 

 

United States (a)

 

$

64,199

 

 

$

55,926

 

 

$

51,078

 

Other countries

 

 

61,644

 

 

 

54,434

 

 

 

45,493

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

125,843

 

 

$

110,360

 

 

$

96,571

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(a)

Includes billings to OEMs and certain multinational organizations because of the nature of these businesses and the impracticability of determining the geographic source of the revenue.

90


PART II

Item 8

 

Revenue from external customers, classified by significant product and service offerings, was as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2019

 

 

2018

 

 

2017

 

 

 

 

 

Server products and cloud services

 

$

32,622

 

 

$

26,129

 

 

$

21,649

 

Office products and cloud services

 

 

31,769

 

 

 

28,316

 

 

 

25,573

 

Windows

 

 

20,395

 

 

 

19,518

 

 

 

18,593

 

Gaming

 

 

11,386

 

 

 

10,353

 

 

 

9,051

 

Search advertising

 

 

7,628

 

 

 

7,012

 

 

 

6,219

 

LinkedIn

 

 

6,754

 

 

 

5,259

 

 

 

2,271

 

Enterprise Services

 

 

6,124

 

 

 

5,846

 

 

 

5,542

 

Devices

 

 

6,095

 

 

 

5,134

 

 

 

5,062

 

Other

 

 

3,070

 

 

 

2,793

 

 

 

2,611

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

125,843

 

 

$

110,360

 

 

$

96,571

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Our commercial cloud revenue, which includes Office 365 Commercial, Azure, the commercial portion of LinkedIn, Dynamics 365, and other commercial cloud properties, was $38.1 billion, $26.6 billion and $16.2 billion in fiscal years 2019, 2018, and 2017, respectively. These amounts are primarily included in Office products and cloud services, Server products and cloud services, and LinkedIn in the table above.

Assets are not allocated to segments for internal reporting presentations. A portion of amortization and depreciation is included with various other costs in an overhead allocation to each segment; it is impracticable for us to separately identify the amount of amortization and depreciation by segment that is included in the measure of segment profit or loss.

Long-lived assets, excluding financial instruments and tax assets, classified by the location of the controlling statutory company and with countries over 10% of the total shown separately, were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

June 30,

 

2019

 

 

2018

 

 

2017

 

 

 

 

 

United States

 

$

55,252

 

 

$

44,501

 

 

$

42,730

 

Ireland

 

 

12,958

 

 

 

12,843

 

 

 

12,889

 

Other countries

 

 

25,422

 

 

 

22,538

 

 

 

19,898

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

93,632

 

 

$

79,882

 

 

$

75,517

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

91


PART II

Item 8

 

NOTE 21 — QUARTERLY INFORMATION (UNAUDITED)

 

(In millions, except per share amounts)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Quarter Ended

 

September 30

 

 

December 31

 

 

March 31

 

 

June 30

 

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fiscal Year 2019

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Revenue

 

$

29,084

 

 

$

32,471

 

 

$

30,571

 

 

$

33,717

 

 

$

125,843

 

Gross margin

 

 

19,179

 

 

 

20,048

 

 

 

20,401

 

 

 

23,305

 

 

 

82,933

 

Operating income

 

 

9,955

 

 

 

10,258

 

 

 

10,341

 

 

 

12,405

 

 

 

42,959

 

Net income (a)

 

 

8,824

 

 

 

8,420

 

 

 

8,809

 

 

 

13,187

 

 

 

39,240

 

Basic earnings per share

 

 

1.15

 

 

 

1.09

 

 

 

1.15

 

 

 

1.72

 

 

 

5.11

 

Diluted earnings per share (b)

 

 

1.14

 

 

 

1.08

 

 

 

1.14

 

 

 

1.71

 

 

 

5.06

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fiscal Year 2018

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Revenue

 

$

24,538

 

 

$

28,918

 

 

$

26,819

 

 

$

30,085

 

 

$

110,360

 

Gross margin

 

 

16,260

 

 

 

17,854

 

 

 

17,550

 

 

 

20,343

 

 

 

72,007

 

Operating income

 

 

7,708

 

 

 

8,679

 

 

 

8,292

 

 

 

10,379

 

 

 

35,058

 

Net income (loss) (c)

 

 

6,576

 

 

 

(6,302

)

 

 

7,424

 

 

 

8,873

 

 

 

16,571

 

Basic earnings (loss) per share

 

 

0.85

 

 

 

(0.82

)

 

 

0.96

 

 

 

1.15

 

 

 

2.15

 

Diluted earnings (loss) per share (d)

 

 

0.84

 

 

 

(0.82

)

 

 

0.95

 

 

 

1.14

 

 

 

2.13

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(a)

Reflects the $157 million net charge related to the enactment of the TCJA for the second quarter and the $2.6 billion net income tax benefit related to the intangible property transfers for the fourth quarter, which together increased net income by $2.4 billion for fiscal year 2019. See Note 12 – Income Taxes for further information.

(b)

Reflects the net charge related to the enactment of the TCJA and the net income tax benefit related to the intangible property transfers, which decreased (increased) diluted EPS $0.02 for the second quarter, $(0.34) for the fourth quarter, and $(0.31) for fiscal year 2019.

(c)

Reflects the net charge (benefit) related to the enactment of the TCJA of $13.8 billion for the second quarter, $(104) million for the fourth quarter, and $13.7 billion for fiscal year 2018.

(d)

Reflects the net charge (benefit) related to the enactment of the TCJA, which decreased (increased) diluted EPS $1.78 for the second quarter, $(0.01) for the fourth quarter, and $1.75 for fiscal year 2018.

 

 

 

92


PART II

Item 8

 

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the Stockholders and the Board of Directors of Microsoft Corporation

Opinion on the Financial Statements

We have audited the accompanying consolidated balance sheets of Microsoft Corporation and subsidiaries (the “Company”) as of June 30, 2019 and 2018, the related consolidated statements of income, comprehensive income, stockholders’ equity, and cash flows, for each of the three years in the period ended June 30, 2019, and the related notes (collectively referred to as the “financial statements”). In our opinion, the financial statements present fairly, in all material respects, the financial position of the Company as of June 30, 2019 and 2018, and the results of its operations and its cash flows for each of the three years in the period ended June 30, 2019, in conformity with accounting principles generally accepted in the United States of America.

We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (“PCAOB”), the Company's internal control over financial reporting as of June 30, 2019, based on criteria established in Internal Control — Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated August 1, 2019, expressed an unqualified opinion on the Company's internal control over financial reporting.

Basis for Opinion

These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on the Company’s financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.

Critical Audit Matters

 

The critical audit matters communicated below are matters arising from the current-period audit of the financial statements that were communicated or required to be communicated to the Company’s Audit Committee and that: (1) relate to accounts or disclosures that are material to the financial statements and (2) involved our especially challenging, subjective, or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the financial statements, taken as a whole, and we are not, by communicating the critical audit matters below, providing separate opinions on the critical audit matters or on the accounts or disclosures to which they relate.

93


PART II

Item 8

 

Revenue Recognition — Refer to Note 1 to the Financial Statements

Critical Audit Matter Description

The Company recognizes revenue upon transfer of control of promised products or services to customers in an amount that reflects the consideration the Company expects to receive in exchange for those products or services. The Company offers customers the ability to acquire multiple licenses of software products and services, including cloud-based services, in its customer agreements through its volume licensing programs.

Significant judgment is exercised by the Company in determining revenue recognition for these customer agreements, and includes the following:

 

Determination of whether products and services are considered distinct performance obligations that should be accounted for separately versus together, such as software licenses and related services that are sold with cloud-based services.

 

Determination of stand-alone selling prices for each distinct performance obligation and for products and services that are not sold separately.

 

The pattern of delivery (i.e., timing of when revenue is recognized) for each distinct performance obligation.

 

Estimation of variable consideration when determining the amount of revenue to recognize (e.g., customer credits, incentives, and in certain instances, estimation of customer usage of products and services).

Given these factors, the related audit effort in evaluating management’s judgments in determining revenue recognition for these customer agreements was extensive and required a high degree of auditor judgment.

How the Critical Audit Matter Was Addressed in the Audit

Our principal audit procedures related to the Company’s revenue recognition for these customer agreements included the following:

 

We tested the effectiveness of internal controls related to the identification of distinct performance obligations, the determination of the timing of revenue recognition, and the estimation of variable consideration.

 

We evaluated management’s significant accounting policies related to these customer agreements for reasonableness.

 

We selected a sample of customer agreements and performed the following procedures:

 

Obtained and read contract source documents for each selection, including master agreements, and other documents that were part of the agreement.

 

Tested management’s identification of significant terms for completeness, including the identification of distinct performance obligations and variable consideration.

 

Assessed the terms in the customer agreement and evaluated the appropriateness of management’s application of their accounting policies, along with their use of estimates, in the determination of revenue recognition conclusions.

 

We evaluated the reasonableness of management’s estimate of stand-alone selling prices for products and services that are not sold separately.

 

We tested the mathematical accuracy of management’s calculations of revenue and the associated timing of revenue recognized in the financial statements.

94


PART II

Item 8

 

Income Taxes — Uncertain Tax Positions — Refer to Note 12 to the Financial Statements

Critical Audit Matter Description

The Company’s long-term income taxes liability includes uncertain tax positions related to transfer pricing issues that remain unresolved with the Internal Revenue Service (“IRS”). The Company remains under IRS audit, or subject to IRS audit, for tax years subsequent to 2003. While the Company has settled a portion of the IRS audits, resolution of the remaining matters could have a material impact on the Company’s financial statements.

Conclusions on recognizing and measuring uncertain tax positions involve significant estimates and management judgment and include complex considerations of the Internal Revenue Code, related regulations, tax case laws, and prior-year audit settlements. Given the complexity and the subjective nature of the transfer pricing issues that remain unresolved with the IRS, evaluating management’s estimates relating to their determination of uncertain tax positions required extensive audit effort and a high degree of auditor judgment, including involvement of our tax specialists.

How the Critical Audit Matter Was Addressed in the Audit

Our principal audit procedures to evaluate management’s estimates of uncertain tax positions related to unresolved transfer pricing issues included the following:

 

We evaluated the appropriateness and consistency of management’s methods and assumptions used in the identification, recognition, measurement, and disclosure of uncertain tax positions, which included testing the effectiveness of the related internal controls.

 

We read and evaluated management’s documentation, including relevant accounting policies and information obtained by management from outside tax specialists, that detailed the basis of the uncertain tax positions.

 

We tested the reasonableness of management’s judgments regarding the future resolution of the uncertain tax positions, including an evaluation of the technical merits of the uncertain tax positions.

 

For those uncertain tax positions that had not been effectively settled, we evaluated whether management had appropriately considered new information that could significantly change the recognition, measurement or disclosure of the uncertain tax positions.

 

We evaluated the reasonableness of management’s estimates by considering how tax law, including statutes, regulations and case law, impacted management’s judgments.

/s/ DELOITTE & TOUCHE LLP

Seattle, Washington

August 1, 2019

We have served as the Company’s auditor since 1983.

 

 

95


PART II

Item 9, 9A

 


YEAR 2018
ITEM 8.
FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

INCOME STATEMENTS

 

(In millions, except per share amounts)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2018

 

 

2017

 

 

2016

 

 

 

 

 

Revenue:

 

 

 

 

 

 

 

 

 

 

 

 

Product

 

$

64,497

 

 

$

63,811

 

 

$

67,336

 

Service and other

 

 

45,863

 

 

 

32,760

 

 

 

23,818

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total revenue

 

 

110,360

 

 

 

96,571

 

 

 

91,154

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cost of revenue:

 

 

 

 

 

 

 

 

 

 

 

 

Product

 

 

15,420

 

 

 

15,175

 

 

 

17,880

 

Service and other

 

 

22,933

 

 

 

19,086

 

 

 

14,900

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total cost of revenue

 

 

38,353

 

 

 

34,261

 

 

 

32,780

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross margin

 

 

72,007

 

 

 

62,310

 

 

 

58,374

 

Research and development

 

 

14,726

 

 

 

13,037

 

 

 

11,988

 

Sales and marketing

 

 

17,469

 

 

 

15,461

 

 

 

14,635

 

General and administrative

 

 

4,754

 

 

 

4,481

 

 

 

4,563

 

Impairment and restructuring

 

 

0

 

 

 

306

 

 

 

1,110

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating income

 

 

35,058

 

 

 

29,025

 

 

 

26,078

 

Other income (expense), net

 

 

1,416

 

 

 

876

 

 

 

(439

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Income before income taxes

 

 

36,474

 

 

 

29,901

 

 

 

25,639

 

Provision for income taxes

 

 

19,903

 

 

 

4,412

 

 

 

5,100

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

$

16,571

 

 

$

25,489

 

 

$

20,539

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Earnings per share:

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

$

2.15

 

 

$

3.29

 

 

$

2.59

 

Diluted

 

$

2.13

 

 

$

3.25

 

 

$

2.56

 

 

 

 

 

 

 

 

 

Weighted average shares outstanding:

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

 

7,700

 

 

 

7,746

 

 

 

7,925

 

Diluted

 

 

7,794

 

 

 

7,832

 

 

 

8,013

 

 

 

 

 

 

 

 

 

Cash dividends declared per common share

 

$

1.68

 

 

$

1.56

 

 

$

1.44

 

 

 

Refer to accompanying notes.

 

51


PART II

Item 8

 

COMPREHENSIVE INCOME STATEMENTS

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2018

 

 

2017

 

 

2016

 

 

 

 

 

Net income

 

$

16,571

 

 

$

25,489

 

 

$

20,539

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other comprehensive income (loss), net of tax:

 

 

 

 

 

 

 

 

 

 

 

 

Net change related to derivatives

 

 

39

 

 

 

(218

)

 

 

(238

)

Net change related to investments

 

 

(2,717

)

 

 

(1,116

)

 

 

(228

)

Translation adjustments and other

 

 

(178

)

 

 

167

 

 

 

(262

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other comprehensive loss

 

 

(2,856

)

 

 

(1,167

)

 

 

(728

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Comprehensive income

 

$

13,715

 

 

$

24,322

 

 

$

19,811

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Refer to accompanying notes. Refer to Note 19 – Accumulated Other Comprehensive Income (Loss) for further information.

 

 

 

52


PART II

Item 8

 

BALANCE SHEETS

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

June 30,

 

2018

 

 

2017

 

 

 

 

Assets

 

 

 

 

 

 

 

 

Current assets:

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

11,946

 

 

$

7,663

 

Short-term investments

 

 

121,822

 

 

 

125,318

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total cash, cash equivalents, and short-term investments

 

 

133,768

 

 

 

132,981

 

Accounts receivable, net of allowance for doubtful accounts of $377 and $345

 

 

26,481

 

 

 

22,431

 

Inventories

 

 

2,662

 

 

 

2,181

 

Other

 

 

6,751

 

 

 

5,103

 

 

 

 

 

 

 

 

 

 

 

 

 

Total current assets

 

 

169,662

 

 

 

162,696

 

Property and equipment, net of accumulated depreciation of $29,223 and $24,179

 

 

29,460

 

 

 

23,734

 

Operating lease right-of-use assets

 

 

6,686

 

 

 

6,555

 

Equity and other investments

 

 

1,862

 

 

 

6,023

 

Goodwill

 

 

35,683

 

 

 

35,122

 

Intangible assets, net

 

 

8,053

 

 

 

10,106

 

Other long-term assets

 

 

7,442

 

 

 

6,076

 

 

 

 

 

 

 

 

 

 

 

 

 

Total assets

 

$

258,848

 

 

$

250,312

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Liabilities and stockholders’ equity

 

 

 

 

 

 

 

 

Current liabilities:

 

 

 

 

 

 

 

 

Accounts payable

 

$

8,617

 

 

$

7,390

 

Short-term debt

 

 

0

 

 

 

9,072

 

Current portion of long-term debt

 

 

3,998

 

 

 

1,049

 

Accrued compensation

 

 

6,103

 

 

 

5,819

 

Short-term income taxes

 

 

2,121

 

 

 

718

 

Short-term unearned revenue

 

 

28,905

 

 

 

24,013

 

Other

 

 

8,744

 

 

 

7,684

 

 

 

 

 

 

 

 

 

 

 

 

 

Total current liabilities

 

 

58,488

 

 

 

55,745

 

Long-term debt

 

 

72,242

 

 

 

76,073

 

Long-term income taxes

 

 

30,265

 

 

 

13,485

 

Long-term unearned revenue

 

 

3,815

 

 

 

2,643

 

Deferred income taxes

 

 

541

 

 

 

5,734

 

Operating lease liabilities

 

 

5,568

 

 

 

5,372

 

Other long-term liabilities

 

 

5,211

 

 

 

3,549

 

 

 

 

 

 

 

 

 

 

 

 

 

Total liabilities

 

 

176,130

 

 

 

162,601

 

 

 

 

 

 

 

 

 

 

 

 

 

Commitments and contingencies

 

 

 

 

 

 

 

 

Stockholders’ equity:

 

 

 

 

 

 

 

 

Common stock and paid-in capital – shares authorized 24,000; outstanding 7,677 and 7,708

 

 

71,223

 

 

 

69,315

 

Retained earnings

 

 

13,682

 

 

 

17,769

 

Accumulated other comprehensive income (loss)

 

 

(2,187

)

 

 

627

 

 

 

 

 

 

 

 

 

 

 

 

 

Total stockholders’ equity

 

 

82,718

 

 

 

87,711

 

 

 

 

 

 

 

 

 

 

 

 

 

Total liabilities and stockholders’ equity

 

$

258,848

 

 

$

250,312

 

 

 

 

 

 

 

 

 

 

 

Refer to accompanying notes.

 

53


PART II

Item 8

 

CASH FLOWS STATEMENTS

 

 (In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2018

 

 

2017

 

 

2016

 

 

 

 

 

Operations

 

 

 

 

 

 

 

 

 

 

 

 

Net income

 

$

16,571

 

 

$

25,489

 

 

$

20,539

 

Adjustments to reconcile net income to net cash from operations:

 

 

 

 

 

 

 

 

 

 

 

 

Asset impairments

 

 

0

 

 

 

0

 

 

 

630

 

Depreciation, amortization, and other

 

 

10,261

 

 

 

8,778

 

 

 

6,622

 

Stock-based compensation expense

 

 

3,940

 

 

 

3,266

 

 

 

2,668

 

Net recognized gains on investments and derivatives

 

 

(2,212

)

 

 

(2,073

)

 

 

(223

)

Deferred income taxes

 

 

(5,143

)

 

 

(829

)

 

 

2,479

 

Changes in operating assets and liabilities:

 

 

 

 

 

 

 

 

 

 

 

 

Accounts receivable

 

 

(3,862

)

 

 

(1,216

)

 

 

562

 

Inventories

 

 

(465

)

 

 

50

 

 

 

600

 

Other current assets

 

 

(952

)

 

 

1,028

 

 

 

(1,212

)

Other long-term assets

 

 

(285

)

 

 

(917

)

 

 

(1,110

)

Accounts payable

 

 

1,148

 

 

 

81

 

 

 

88

 

Unearned revenue

 

 

5,922

 

 

 

3,820

 

 

 

2,565

 

Income taxes

 

 

18,183

 

 

 

1,792

 

 

 

(298

)

Other current liabilities

 

 

798

 

 

 

356

 

 

 

(179

)

Other long-term liabilities

 

 

(20

)

 

 

(118

)

 

 

(406

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net cash from operations

 

 

43,884

 

 

 

39,507

 

 

 

33,325

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Financing

 

 

 

 

 

 

 

 

 

 

 

 

Proceeds from issuance (repayments) of short-term debt, maturities of 90 days or less, net

 

 

(7,324

)

 

 

(4,963

)

 

 

7,195

 

Proceeds from issuance of debt

 

 

7,183

 

 

 

44,344

 

 

 

13,884

 

Repayments of debt

 

 

(10,060

)

 

 

(7,922

)

 

 

(2,796

)

Common stock issued

 

 

1,002

 

 

 

772

 

 

 

668

 

Common stock repurchased

 

 

(10,721

)

 

 

(11,788

)

 

 

(15,969

)

Common stock cash dividends paid

 

 

(12,699

)

 

 

(11,845

)

 

 

(11,006

)

Other, net

 

 

(971

)

 

 

(190

)

 

 

(369

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net cash from (used in) financing

 

 

(33,590

)

 

 

8,408

 

 

 

(8,393

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Investing

 

 

 

 

 

 

 

 

 

 

 

 

Additions to property and equipment

 

 

(11,632

)

 

 

(8,129

)

 

 

(8,343

)

Acquisition of companies, net of cash acquired, and purchases of intangible and other assets

 

 

(888

)

 

 

(25,944

)

 

 

(1,393

)

Purchases of investments

 

 

(137,380

)

 

 

(176,905

)

 

 

(129,758

)

Maturities of investments

 

 

26,360

 

 

 

28,044

 

 

 

22,054

 

Sales of investments

 

 

117,577

 

 

 

136,350

 

 

 

93,287

 

Securities lending payable

 

 

(98

)

 

 

(197

)

 

 

203

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net cash used in investing

 

 

(6,061

)

 

 

 (46,781

)

 

 

 (23,950

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Effect of foreign exchange rates on cash and cash equivalents

 

 

50

 

 

 

19

 

 

 

(67

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net change in cash and cash equivalents

 

 

4,283

 

 

 

1,153

 

 

 

915

 

Cash and cash equivalents, beginning of period

 

 

7,663

 

 

 

6,510

 

 

 

5,595

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash and cash equivalents, end of period

 

$

11,946

 

 

$

7,663

 

 

$

6,510

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Refer to accompanying notes.

54


PART II

Item 8

 

STOCKHOLDERS’ EQUITY STATEMENTS

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2018

 

 

2017

 

 

2016

 

 

 

 

 

Common stock and paid-in capital

 

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

$

69,315

 

 

$

68,178

 

 

$

68,465

 

Common stock issued

 

 

1,002

 

 

 

772

 

 

 

668

 

Common stock repurchased

 

 

(3,033

)

 

 

(2,987

)

 

 

(3,689

)

Stock-based compensation expense

 

 

3,940

 

 

 

3,266

 

 

 

2,668

 

Other, net

 

 

(1

)

 

 

86

 

 

 

66

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

 

71,223

 

 

 

69,315

 

 

 

68,178

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Retained earnings

 

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

 

17,769

 

 

 

13,118

 

 

 

16,191

 

Net income

 

 

16,571

 

 

 

25,489

 

 

 

20,539

 

Common stock cash dividends

 

 

(12,917

)

 

 

(12,040

)

 

 

(11,329

)

Common stock repurchased

 

 

(7,699

)

 

 

(8,798

)

 

 

(12,283

)

Cumulative effect of accounting change

 

 

(42

)

 

 

0

 

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

 

13,682

 

 

 

17,769

 

 

 

13,118

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Accumulated other comprehensive income (loss)

 

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

 

627

 

 

 

1,794

 

 

 

2,522

 

Other comprehensive loss

 

 

(2,856

)

 

 

(1,167

)

 

 

(728

)

Cumulative effect of accounting change

 

 

42

 

 

 

0

 

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

 

(2,187

)

 

 

627

 

 

 

1,794

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total stockholders’ equity

 

$

82,718

 

 

$

87,711

 

 

$

83,090

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Refer to accompanying notes.

 

55


PART II

Item 8

 

NOTES TO FINANCIAL STATEMENTS

NOTE 1 — ACCOUNTING POLICIES

Accounting Principles

Our consolidated financial statements and accompanying notes are prepared in accordance with accounting principles generally accepted in the United States of America (“GAAP”).

We have recast certain prior period income tax liabilities as discussed in the Recent Tax Legislation section below. We have also recast prior period securities lending payables to other current liabilities in our consolidated balance sheets to conform to the current period presentation. These items had no impact in our consolidated income statements or net cash from or used in operating, financing, or investing in our consolidated cash flows statements.

Principles of Consolidation

The consolidated financial statements include the accounts of Microsoft Corporation and its subsidiaries. Intercompany transactions and balances have been eliminated. Equity investments for which we are able to exercise significant influence over but do not control the investee and are not the primary beneficiary of the investee’s activities are accounted for using the equity method. Investments for which we are not able to exercise significant influence over the investee and which do not have readily determinable fair values are accounted for under the cost method.

Estimates and Assumptions

Preparing financial statements requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue, and expenses. Examples of estimates and assumptions include: for revenue recognition, determining the nature and timing of satisfaction of performance obligations, and determining the standalone selling price (“SSP”) of performance obligations, variable consideration, and other obligations such as product returns and refunds; loss contingencies; product warranties; the fair value of and/or potential impairment of goodwill and intangible assets for our reporting units; product life cycles; useful lives of our tangible and intangible assets; allowances for doubtful accounts; the market value of, and demand for, our inventory; stock-based compensation forfeiture rates; when technological feasibility is achieved for our products; the potential outcome of future tax consequences of events that have been recognized in our consolidated financial statements or tax returns; and determining when investment impairments are other-than-temporary. Actual results and outcomes may differ from management’s estimates and assumptions.

Foreign Currencies

Assets and liabilities recorded in foreign currencies are translated at the exchange rate on the balance sheet date. Revenue and expenses are translated at average rates of exchange prevailing during the year. Translation adjustments resulting from this process are recorded to other comprehensive income (“OCI”).

Revenue

Product Revenue and Service and Other Revenue

Product revenue includes sales from operating systems; cross-device productivity applications; server applications; business solution applications; desktop and server management tools; software development tools; video games; and hardware such as PCs, tablets, gaming and entertainment consoles, other intelligent devices, and related accessories.

Service and other revenue includes sales from cloud-based solutions that provide customers with software, services, platforms, and content such as Microsoft Office 365, Microsoft Azure, Microsoft Dynamics 365, and Xbox Live; solution support; and consulting services. Service and other revenue also includes sales from online advertising and LinkedIn.

56


PART II

Item 8

 

Revenue Recognition

Revenue is recognized upon transfer of control of promised products or services to customers in an amount that reflects the consideration we expect to receive in exchange for those products or services. We enter into contracts that can include various combinations of products and services, which are generally capable of being distinct and accounted for as separate performance obligations. Revenue is recognized net of allowances for returns and any taxes collected from customers, which are subsequently remitted to governmental authorities.

Nature of Products and Services

Licenses for on-premises software provide the customer with a right to use the software as it exists when made available to the customer. Customers may purchase perpetual licenses or subscribe to licenses, which provide customers with the same functionality and differ mainly in the duration over which the customer benefits from the software. Revenue from distinct on-premises licenses is recognized upfront at the point in time when the software is made available to the customer. In cases where we allocate revenue to software updates, primarily because the updates are provided at no additional charge, revenue is recognized as the updates are provided, which is generally ratably over the estimated life of the related device or license.

Certain volume licensing programs, including Enterprise Agreements, include on-premises licenses combined with Software Assurance (“SA”). SA conveys rights to new software and upgrades released over the contract period and provides support, tools, and training to help customers deploy and use products more efficiently. On-premises licenses are considered distinct performance obligations when sold with SA. Revenue allocated to SA is generally recognized ratably over the contract period as customers simultaneously consume and receive benefits, given that SA comprises distinct performance obligations that are satisfied over time.

Cloud services, which allow customers to use hosted software over the contract period without taking possession of the software, are provided on either a subscription or consumption basis. Revenue related to cloud services provided on a subscription basis is recognized ratably over the contract period. Revenue related to cloud services provided on a consumption basis, such as the amount of storage used in a period, is recognized based on the customer utilization of such resources. When cloud services require a significant level of integration and interdependency with software and the individual components are not considered distinct, all revenue is recognized over the period in which the cloud services are provided.

Revenue from search advertising is recognized when the advertisement appears in the search results or when the action necessary to earn the revenue has been completed. Revenue from consulting services is recognized as services are provided.

Our hardware is generally highly dependent on, and interrelated with, the underlying operating system and cannot function without the operating system. In these cases, the hardware and software license are accounted for as a single performance obligation and revenue is recognized at the point in time when ownership is transferred to resellers or directly to end customers through retail stores and online marketplaces.

Refer to Note 21 – Segment Information and Geographic Data for further information, including revenue by significant product and service offering.

Significant Judgments

Our contracts with customers often include promises to transfer multiple products and services to a customer. Determining whether products and services are considered distinct performance obligations that should be accounted for separately versus together may require significant judgment. When a cloud-based service includes both on-premises software licenses and cloud services, judgment is required to determine whether the software license is considered distinct and accounted for separately, or not distinct and accounted for together with the cloud service and recognized over time. Certain cloud services, primarily Office 365, depend on a significant level of integration, interdependency, and interrelation between the desktop applications and cloud services, and are accounted for together as one performance obligation. Revenue from Office 365 is recognized ratably over the period in which the cloud services are provided.

57


PART II

Item 8

 

Judgment is required to determine the SSP for each distinct performance obligation. We use a single amount to estimate SSP for items that are not sold separately, including on-premises licenses sold with SA or software updates provided at no additional charge. We use a range of amounts to estimate SSP when we sell each of the products and services separately and need to determine whether there is a discount to be allocated based on the relative SSP of the various products and services.

In instances where SSP is not directly observable, such as when we do not sell the product or service separately, we determine the SSP using information that may include market conditions and other observable inputs. We typically have more than one SSP for individual products and services due to the stratification of those products and services by customers and circumstances. In these instances, we may use information such as the size of the customer and geographic region in determining the SSP.

Due to the various benefits from and the nature of our SA program, judgment is required to assess the pattern of delivery, including the exercise pattern of certain benefits across our portfolio of customers.

Our products are generally sold with a right of return, we may provide other credits or incentives, and in certain instances we estimate customer usage of our products and services, which are accounted for as variable consideration when determining the amount of revenue to recognize. Returns and credits are estimated at contract inception and updated at the end of each reporting period if additional information becomes available. Changes to our estimated variable consideration were not material for the periods presented.

Contract Balances

Timing of revenue recognition may differ from the timing of invoicing to customers. We record a receivable when revenue is recognized prior to invoicing, or unearned revenue when revenue is recognized subsequent to invoicing. For multi-year agreements, we generally invoice customers annually at the beginning of each annual coverage period. We record a receivable related to revenue recognized for multi-year on-premises licenses as we have an unconditional right to invoice and receive payment in the future related to those licenses.

The opening balance of current and long-term accounts receivable, net of allowance for doubtful accounts, was $22.3 billion as of July 1, 2016.

As of June 30, 2018 and 2017, long-term accounts receivable, net of allowance for doubtful accounts, were $1.8 billion and $1.7 billion, respectively, and are included in other long-term assets in our consolidated balance sheets.

The allowance for doubtful accounts reflects our best estimate of probable losses inherent in the accounts receivable balance. We determine the allowance based on known troubled accounts, historical experience, and other currently available evidence.

Activity in the allowance for doubtful accounts was as follows:

 

(In millions)

 

 

 

 

 

 

 

Year Ended June 30,

 

 

2018

 

 

 

 

2017

 

 

 

2016

 

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

$

361

 

 

 

$

409

 

 

$

289

 

Charged to costs and other

 

 

134

 

 

 

 

58

 

 

 

175

 

Write-offs

 

 

(98

)

 

 

 

(106

)

 

 

(55

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

$

397

 

 

 

$

361

 

 

$

409

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Allowance for doubtful accounts included in our consolidated balance sheets:

 

 

 

 

 

 

 

June 30,

 

 

2018

 

 

 

 

2017

 

 

 

2016

 

 

 

 

 

 

 

 

 

 

 

 

Accounts receivable, net of allowance for doubtful accounts

 

$

377

 

 

 

$

345

 

 

$

392

 

Other long-term assets

 

 

20

 

 

 

 

16

 

 

 

17

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

397

 

 

 

$

361

 

 

$

409

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

58


PART II

Item 8

 

Unearned revenue comprises mainly unearned revenue related to volume licensing programs, which may include SA and cloud services. Unearned revenue is generally invoiced annually at the beginning of each contract period for multi-year agreements and recognized ratably over the coverage period. Unearned revenue also includes payments for consulting services to be performed in the future; LinkedIn subscriptions; Office 365 subscriptions; Xbox Live subscriptions; Windows 10 post-delivery support; Dynamics business solutions; Skype prepaid credits and subscriptions; and other offerings for which we have been paid in advance and earn the revenue when we transfer control of the product or service.

Refer to Note 15 – Unearned Revenue for further information, including unearned revenue by segment and changes in unearned revenue during the period.

Payment terms and conditions vary by contract type, although terms generally include a requirement of payment within 30 to 60 days. In instances where the timing of revenue recognition differs from the timing of invoicing, we have determined our contracts generally do not include a significant financing component. The primary purpose of our invoicing terms is to provide customers with simplified and predictable ways of purchasing our products and services, not to receive financing from our customers or to provide customers with financing. Examples include invoicing at the beginning of a subscription term with revenue recognized ratably over the contract period, and multi-year on-premises licenses that are invoiced annually with revenue recognized upfront.

Assets Recognized from Costs to Obtain a Contract with a Customer

We recognize an asset for the incremental costs of obtaining a contract with a customer if we expect the benefit of those costs to be longer than one year. We have determined that certain sales incentive programs meet the requirements to be capitalized. Total capitalized costs to obtain a contract were immaterial during the periods presented and are included in other current and long-term assets in our consolidated balance sheets.

We apply a practical expedient to expense costs as incurred for costs to obtain a contract with a customer when the amortization period would have been one year or less. These costs include our internal sales force compensation program and certain partner sales incentive programs as we have determined annual compensation is commensurate with annual sales activities.

Cost of Revenue

Cost of revenue includes: manufacturing and distribution costs for products sold and programs licensed; operating costs related to product support service centers and product distribution centers; costs incurred to include software on PCs sold by original equipment manufacturers (“OEM”), to drive traffic to our websites, and to acquire online advertising space; costs incurred to support and maintain Internet-based products and services, including datacenter costs and royalties; warranty costs; inventory valuation adjustments; costs associated with the delivery of consulting services; and the amortization of capitalized software development costs. Capitalized software development costs are amortized over the estimated lives of the products.

Product Warranty

We provide for the estimated costs of fulfilling our obligations under hardware and software warranties at the time the related revenue is recognized. For hardware warranties, we estimate the costs based on historical and projected product failure rates, historical and projected repair costs, and knowledge of specific product failures (if any). The specific hardware warranty terms and conditions vary depending upon the product sold and the country in which we do business, but generally include parts and labor over a period generally ranging from 90 days to three years. For software warranties, we estimate the costs to provide bug fixes, such as security patches, over the estimated life of the software. We regularly reevaluate our estimates to assess the adequacy of the recorded warranty liabilities and adjust the amounts as necessary.

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Research and Development

Research and development expenses include payroll, employee benefits, stock-based compensation expense, and other headcount-related expenses associated with product development. Research and development expenses also include third-party development and programming costs, localization costs incurred to translate software for international markets, and the amortization of purchased software code and services content. Such costs related to software development are included in research and development expense until the point that technological feasibility is reached, which for our software products, is generally shortly before the products are released to production. Once technological feasibility is reached, such costs are capitalized and amortized to cost of revenue over the estimated lives of the products.

Sales and Marketing

Sales and marketing expenses include payroll, employee benefits, stock-based compensation expense, and other headcount-related expenses associated with sales and marketing personnel, and the costs of advertising, promotions, trade shows, seminars, and other programs. Advertising costs are expensed as incurred. Advertising expense was $1.6 billion, $1.5 billion, and $1.6 billion in fiscal years 2018, 2017, and 2016, respectively.

Stock-Based Compensation

Compensation cost for stock awards, which include restricted stock units (“RSUs”) and performance stock units (“PSUs”), is measured at the fair value on the grant date and recognized as expense, net of estimated forfeitures, over the related service or performance period. The fair value of stock awards is based on the quoted price of our common stock on the grant date less the present value of expected dividends not received during the vesting period. We measure the fair value of PSUs using a Monte Carlo valuation model. Compensation cost for RSUs is recognized using the straight-line method and for PSUs is recognized using the accelerated method.

Compensation expense for the employee stock purchase plan (“ESPP”) is measured as the discount the employee is entitled to upon purchase and is recognized in the period of purchase.

Income Taxes

Income tax expense includes U.S. and international income taxes, and interest and penalties on uncertain tax positions. Certain income and expenses are not reported in tax returns and financial statements in the same year. The tax effect of such temporary differences is reported as deferred income taxes. Deferred tax assets are reported net of a valuation allowance when it is more likely than not that a tax benefit will not be realized. All deferred income taxes are classified as long-term in our consolidated balance sheets.

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Fair Value Measurements

We account for certain assets and liabilities at fair value. The hierarchy below lists three levels of fair value based on the extent to which inputs used in measuring fair value are observable in the market. We categorize each of our fair value measurements in one of these three levels based on the lowest level input that is significant to the fair value measurement in its entirety. These levels are:

 

Level 1 – inputs are based upon unadjusted quoted prices for identical instruments in active markets. Our Level 1 non-derivative investments primarily include U.S. government securities, common and preferred stock, and mutual funds. Our Level 1 derivative assets and liabilities include those actively traded on exchanges.

 

Level 2 – inputs are based upon quoted prices for similar instruments in active markets, quoted prices for identical or similar instruments in markets that are not active, and model-based valuation techniques (e.g. the Black-Scholes model) for which all significant inputs are observable in the market or can be corroborated by observable market data for substantially the full term of the assets or liabilities. Where applicable, these models project future cash flows and discount the future amounts to a present value using market-based observable inputs including interest rate curves, credit spreads, foreign exchange rates, and forward and spot prices for currencies. Our Level 2 non-derivative investments consist primarily of corporate notes and bonds, foreign government bonds, mortgage- and asset-backed securities, commercial paper, certificates of deposit, and U.S. agency securities. Our Level 2 derivative assets and liabilities primarily include certain over-the-counter option and swap contracts.

 

Level 3 – inputs are generally unobservable and typically reflect management’s estimates of assumptions that market participants would use in pricing the asset or liability. The fair values are therefore determined using model-based techniques, including option pricing models and discounted cash flow models. Our Level 3 non-derivative assets and liabilities primarily comprise investments in common and preferred stock, and goodwill and intangible assets, when they are recorded at fair value due to an impairment charge. Unobservable inputs used in the models are significant to the fair values of the assets and liabilities.

We measure certain assets, including our cost and equity method investments, at fair value on a nonrecurring basis when they are deemed to be other-than-temporarily impaired. The fair values of these investments are determined based on valuation techniques using the best information available, and may include quoted market prices, market comparables, and discounted cash flow projections. An impairment charge is recorded when the cost of the investment exceeds its fair value and this condition is determined to be other-than-temporary.

Our other current financial assets and current financial liabilities have fair values that approximate their carrying values.

Financial Instruments

Investments

We consider all highly liquid interest-earning investments with a maturity of three months or less at the date of purchase to be cash equivalents. The fair values of these investments approximate their carrying values. In general, investments with original maturities of greater than three months and remaining maturities of less than one year are classified as short-term investments. Investments with maturities beyond one year may be classified as short-term based on their highly liquid nature and because such marketable securities represent the investment of cash that is available for current operations. All cash equivalents and short-term investments are classified as available-for-sale and realized gains and losses are recorded using the specific identification method. Changes in market value, excluding other-than-temporary impairments, are reflected in OCI.

Equity and other investments classified as long-term include both debt and equity instruments. Debt and publicly-traded equity securities are classified as available-for-sale and realized gains and losses are recorded using the specific identification method. Changes in the market value of available-for-sale securities, excluding other-than-temporary impairments, are reflected in OCI. Common and preferred stock and other investments that are restricted for more than one year or are not publicly traded are recorded at cost or using the equity method.

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We lend certain fixed-income and equity securities to increase investment returns. These transactions are accounted for as secured borrowings and the loaned securities continue to be carried as investments in our consolidated balance sheets. Cash and/or security interests are received as collateral for the loaned securities with the amount determined based upon the underlying security lent and the creditworthiness of the borrower. Cash received is recorded as an asset with a corresponding liability.

Investments are considered to be impaired when a decline in fair value is judged to be other-than-temporary. Fair value is calculated based on publicly available market information or other estimates determined by management. We employ a systematic methodology on a quarterly basis that considers available quantitative and qualitative evidence in evaluating potential impairment of our investments. If the cost of an investment exceeds its fair value, we evaluate, among other factors, general market conditions, credit quality of debt instrument issuers, the duration and extent to which the fair value is less than cost, and for equity securities, our intent and ability to hold, or plans to sell, the investment. For fixed-income securities, we also evaluate whether we have plans to sell the security or it is more likely than not that we will be required to sell the security before recovery. We also consider specific adverse conditions related to the financial health of and business outlook for the investee, including industry and sector performance, changes in technology, and operational and financing cash flow factors. Once a decline in fair value is determined to be other-than-temporary, an impairment charge is recorded to other income (expense), net and a new cost basis in the investment is established.

Derivatives

Derivative instruments are recognized as either assets or liabilities and are measured at fair value. The accounting for changes in the fair value of a derivative depends on the intended use of the derivative and the resulting designation.

For derivative instruments designated as fair value hedges, the gains (losses) are recognized in earnings in the periods of change together with the offsetting losses (gains) on the hedged items attributed to the risk being hedged. For options designated as fair value hedges, changes in the time value are excluded from the assessment of hedge effectiveness and are recognized in earnings.

For derivative instruments designated as cash flow hedges, the effective portion of the gains (losses) on the derivatives is initially reported as a component of OCI and is subsequently recognized in earnings when the hedged exposure is recognized in earnings. For options designated as cash flow hedges, changes in the time value are excluded from the assessment of hedge effectiveness and are recognized in earnings. Gains (losses) on derivatives representing either hedge components excluded from the assessment of effectiveness or hedge ineffectiveness are recognized in earnings.

For derivative instruments that are not designated as hedges, gains (losses) from changes in fair values are primarily recognized in other income (expense), net.

Inventories

Inventories are stated at average cost, subject to the lower of cost or net realizable value. Cost includes materials, labor, and manufacturing overhead related to the purchase and production of inventories. Net realizable value is the estimated selling price less estimated costs of completion, disposal, and transportation. We regularly review inventory quantities on hand, future purchase commitments with our suppliers, and the estimated utility of our inventory. If our review indicates a reduction in utility below carrying value, we reduce our inventory to a new cost basis through a charge to cost of revenue.

Property and Equipment

Property and equipment is stated at cost less accumulated depreciation, and depreciated using the straight-line method over the shorter of the estimated useful life of the asset or the lease term. The estimated useful lives of our property and equipment are generally as follows: computer software developed or acquired for internal use, three to seven years; computer equipment, two to three years; buildings and improvements, five to 15 years; leasehold improvements, three to 20 years; and furniture and equipment, one to 10 years. Land is not depreciated.

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Leases

We determine if an arrangement is a lease at inception. Operating leases are included in operating lease right-of-use (“ROU”) assets, other current liabilities, and operating lease liabilities in our consolidated balance sheets. Finance leases are included in property and equipment, other current liabilities, and other long-term liabilities in our consolidated balance sheets.

ROU assets represent our right to use an underlying asset for the lease term and lease liabilities represent our obligation to make lease payments arising from the lease. Operating lease ROU assets and liabilities are recognized at commencement date based on the present value of lease payments over the lease term. As most of our leases do not provide an implicit rate, we use our incremental borrowing rate based on the information available at commencement date in determining the present value of lease payments. We use the implicit rate when readily determinable. The operating lease ROU asset also includes any lease payments made and excludes lease incentives. Our lease terms may include options to extend or terminate the lease when it is reasonably certain that we will exercise that option. Lease expense for lease payments is recognized on a straight-line basis over the lease term.

We have lease agreements with lease and non-lease components, which are generally accounted for separately. For certain equipment leases, such as vehicles, we account for the lease and non-lease components as a single lease component. Additionally, for certain equipment leases, we apply a portfolio approach to effectively account for the operating lease ROU assets and liabilities.

Goodwill

Goodwill is tested for impairment at the reporting unit level (operating segment or one level below an operating segment) on an annual basis (May 1 for us) and between annual tests if an event occurs or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying value.

Intangible Assets

All of our intangible assets are subject to amortization and are amortized using the straight-line method over their estimated period of benefit, ranging from one to 20 years. We evaluate the recoverability of intangible assets periodically by taking into account events or circumstances that may warrant revised estimates of useful lives or that indicate the asset may be impaired.

Recent Tax Legislation

On December 22, 2017, the Tax Cuts and Jobs Act (“TCJA”) was enacted into law, which significantly changes existing U.S. tax law and includes numerous provisions that affect our business. Refer to Note 13 – Income Taxes for further discussion.

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As a result of the TCJA, we have recast certain prior period income tax liabilities in our consolidated balance sheets to conform to the current period presentation. Previously reported balances were impacted as follows:

 

(In millions)

 

As

Previously

Reported

 

 

As

Adjusted

 

 

 

 

 

Balance Sheets

 

 

 

 

 

 

June 30,

2017

 

 

 

 

 

 

 

 

 

 

Long-term income taxes

 

$

0

 

 

$

13,485

 

Other long-term liabilities

 

 

17,034

 

 

 

3,549

 

 

 

 

 

 

 

 

 

 

These adjustments had no impact in our consolidated income statements or net cash from or used in operating, financing, or investing in our consolidated cash flows statements.

Recent Accounting Guidance

Recently Adopted Accounting Guidance

Comprehensive Income – Reclassification of Certain Tax Effects

In February 2018, the Financial Accounting Standards Board (“FASB”) issued new guidance to allow a reclassification from accumulated other comprehensive income (“AOCI”) to retained earnings for stranded tax effects resulting from the TCJA. In the second quarter of fiscal year 2018, we remeasured our deferred taxes related to unrealized gains on our investment balances using the reduced tax rate. As required by GAAP, we recognized the net tax benefit in the provision for income taxes in our consolidated income statements, even though the deferred taxes were initially recognized in AOCI, which resulted in stranded tax effects. We elected to early adopt the standard effective April 1, 2018 and reclassified a $42 million net tax benefit from AOCI to retained earnings in our consolidated balance sheets. Adoption of the standard had no impact to our consolidated income statements or cash flows statements.

Leases

In February 2016, the FASB issued a new standard related to leases to increase transparency and comparability among organizations by requiring the recognition of ROU assets and lease liabilities on the balance sheet. Most prominent among the changes in the standard is the recognition of ROU assets and lease liabilities by lessees for those leases classified as operating leases. Under the standard, disclosures are required to meet the objective of enabling users of financial statements to assess the amount, timing, and uncertainty of cash flows arising from leases. We are also required to recognize and measure leases existing at, or entered into after, the beginning of the earliest comparative period presented using a modified retrospective approach, with certain practical expedients available.

We elected to early adopt the standard effective July 1, 2017 concurrent with our adoption of the new standard related to revenue recognition. We elected the available practical expedients and implemented internal controls and key system functionality to enable the preparation of financial information on adoption.

The standard had a material impact in our consolidated balance sheets, but did not have an impact in our consolidated income statements. The most significant impact was the recognition of ROU assets and lease liabilities for operating leases, while our accounting for finance leases remained substantially unchanged. Adoption of the standard required us to restate certain previously reported results, including the recognition of additional ROU assets and lease liabilities for operating leases. Refer to Impacts to Previously Reported Results below for the impact of adoption of the standard in our consolidated financial statements.

Revenue from Contracts with Customers

In May 2014, the FASB issued a new standard related to revenue recognition. Under the standard, revenue is recognized when a customer obtains control of promised goods or services in an amount that reflects the consideration the entity expects to receive in exchange for those goods or services. In addition, the standard requires disclosure of the nature, amount, timing, and uncertainty of revenue and cash flows arising from contracts with customers.

64


PART II

Item 8

 

We elected to early adopt the standard effective July 1, 2017, using the full retrospective method, which required us to restate each prior reporting period presented. We implemented internal controls and key system functionality to enable the preparation of financial information on adoption.

The most significant impact of the standard relates to our accounting for software license revenue. Specifically, for Windows 10, we recognize revenue predominantly at the time of billing and delivery rather than ratably over the life of the related device. For certain multi-year commercial software subscriptions that include both distinct software licenses and SA, we recognize license revenue at the time of contract execution rather than over the subscription period. Due to the complexity of certain of our commercial license subscription contracts, the actual revenue recognition treatment required under the standard depends on contract-specific terms and in some instances may vary from recognition at the time of billing. Revenue recognition related to our hardware, cloud offerings (such as Office 365), LinkedIn, and professional services remains substantially unchanged.

Adoption of the standard using the full retrospective method required us to restate certain previously reported results, including the recognition of additional revenue and an increase in the provision for income taxes, primarily due to the net change in Windows 10 revenue recognition. In addition, adoption of the standard resulted in an increase in accounts receivable and other current and long-term assets, driven by unbilled receivables from upfront recognition of revenue for certain multi-year commercial software subscriptions that include both distinct software licenses and SA; a reduction of unearned revenue, driven by the upfront recognition of license revenue from Windows 10 and certain multi-year commercial software subscriptions; and an increase in deferred income taxes, driven by the upfront recognition of revenue. Refer to Impacts to Previously Reported Results below for the impact of adoption of the standard in our consolidated financial statements.

Impacts to Previously Reported Results

Adoption of the standards related to revenue recognition and leases impacted our previously reported results as follows:

 

(In millions, except per share amounts)

 

As

Previously

Reported

 

 

New

Revenue

Standard

Adjustment

 

 

As

Restated

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Income Statements

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30, 2017

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Revenue

 

$

89,950

 

 

$

6,621

 

 

$

96,571

 

Provision for income taxes

 

 

1,945

 

 

 

2,467

 

 

 

4,412

 

Net income

 

 

21,204

 

 

 

4,285

 

 

 

25,489

 

Diluted earnings per share

 

 

2.71

 

 

 

0.54

 

 

 

3.25

 

 

 

Year Ended June 30, 2016

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Revenue

 

$

85,320

 

 

$

5,834

 

 

$

91,154

 

Provision for income taxes

 

 

2,953

 

 

 

2,147

 

 

 

5,100

 

Net income

 

 

16,798

 

 

 

3,741

 

 

 

20,539

 

Diluted earnings per share

 

 

2.10

 

 

 

0.46

 

 

 

2.56

 

 

 

 

65


PART II

Item 8

 

(In millions)

 

As

Previously

Reported

 

 

New

Revenue

Standard

Adjustment

 

 

New Lease

Standard

Adjustment

 

 

As

Restated

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance Sheets

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2017

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Accounts receivable, net of allowance for doubtful accounts

 

$

19,792

 

 

$

2,639

 

 

$

0

 

 

$

22,431

 

Operating lease right-of-use assets

 

 

0

 

 

 

0

 

 

 

6,555

 

 

 

6,555

 

Other current and long-term assets

 

 

11,147

 

 

 

32

 

 

 

0

 

 

 

11,179

 

Unearned revenue

 

 

44,479

 

 

 

(17,823

)

 

 

0

 

 

 

26,656

 

Deferred income taxes

 

 

531

 

 

 

5,203

 

 

 

0

 

 

 

5,734

 

Operating lease liabilities

 

 

0

 

 

 

0

 

 

 

5,372

 

 

 

5,372

 

Other current and long-term liabilities

 

 

23,464

 

 

 

(26

)

 

 

1,183

 

 

 

24,621

 

Stockholders' equity

 

 

72,394

 

 

 

15,317

 

 

 

0

 

 

 

87,711

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Adoption of the standards related to revenue recognition and leases had no impact to cash from or used in operating, financing, or investing in our consolidated cash flows statements.

Recent Accounting Guidance Not Yet Adopted

Financial Instruments – Targeted Improvements to Accounting for Hedging Activities

In August 2017, the FASB issued new guidance related to accounting for hedging activities. This guidance expands strategies that qualify for hedge accounting, changes how many hedging relationships are presented in the financial statements, and simplifies the application of hedge accounting in certain situations. The standard will be effective for us beginning July 1, 2019, with early adoption permitted for any interim or annual period before the effective date. Adoption of the standard will be applied using a modified retrospective approach through a cumulative-effect adjustment to retained earnings as of the effective date. We are currently evaluating the impact of this standard in our consolidated financial statements, including accounting policies, processes, and systems.

Income Taxes – Intra-Entity Asset Transfers

In October 2016, the FASB issued new guidance requiring an entity to recognize the income tax consequences of an intra-entity transfer of an asset other than inventory when the transfer occurs, rather than when the asset has been sold to an outside party. This guidance is effective for us beginning July 1, 2018, with early adoption permitted beginning July 1, 2017. We plan to adopt the guidance effective July 1, 2018. Adoption of the guidance will be applied using a modified retrospective approach through a cumulative-effect adjustment to retained earnings as of the effective date. We currently expect a net cumulative-effect adjustment of approximately $550 million, which will reverse the deferral of income tax consequences from past intra-entity transfers involving assets other than inventory and new deferred tax assets for amounts not recognized under current GAAP, partially offset by a U.S. deferred tax liability related to global intangible low-taxed income (“GILTI”). Adoption of the standard is expected to result in an increase in long-term deferred tax assets of $2.8 billion, an increase in long-term deferred tax liabilities of $2.1 billion, and a reduction to other current assets of $150 million. As a result of the TCJA, we are continuing to evaluate the impact of this standard in our consolidated financial statements, including accounting policies, processes, and systems.

Financial Instruments – Credit Losses

In June 2016, the FASB issued a new standard to replace the incurred loss impairment methodology under current GAAP with a methodology that reflects expected credit losses and requires consideration of a broader range of reasonable and supportable information to inform credit loss estimates. We will be required to use a forward-looking expected credit loss model for accounts receivables, loans, and other financial instruments. Credit losses relating to available-for-sale debt securities will also be recorded through an allowance for credit losses rather than as a reduction in the amortized cost basis of the securities. The standard will be effective for us beginning July 1, 2020, with early adoption permitted beginning July 1, 2019. Adoption of the standard will be applied using a modified retrospective approach through a cumulative-effect adjustment to retained earnings as of the effective date to align our credit loss methodology with the new standard. We are currently evaluating the impact of this standard in our consolidated financial statements, including accounting policies, processes, and systems.

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Financial Instruments – Recognition, Measurement, Presentation, and Disclosure

In January 2016, the FASB issued a new standard related to certain aspects of recognition, measurement, presentation, and disclosure of financial instruments. Most prominent among the changes in the standard is the requirement for changes in the fair value of our equity investments, with certain exceptions, to be recognized through net income rather than OCI. Under the standard, equity investments that do not have a readily determinable fair value are eligible for the measurement alternative. Using the measurement alternative, investments without readily determinable fair values will be valued at cost, with adjustments for changes in price or impairments reflected through net income.

The standard will be effective for us beginning July 1, 2018. Adoption of the standard will be applied using a modified retrospective approach through a cumulative-effect adjustment from AOCI to retained earnings as of the effective date. A cumulative-effect adjustment will capture any previously held unrealized gains and losses held in AOCI related to our equity investments carried at fair value as well as the impact of recording the fair value of certain equity investments carried at cost. In preparation for adoption of this standard, we have implemented internal controls to align with the new standard and have concluded that we will elect the measurement alternative for equity investments that do not have readily determinable fair values.

The impact in our consolidated balance sheets upon adoption will not be material. Adoption of the standard will have no impact to cash from or used in operating, financing or investing in our consolidated cash flows statements.

 

NOTE 2 — EARNINGS PER SHARE

Basic earnings per share (“EPS”) is computed based on the weighted average number of shares of common stock outstanding during the period. Diluted EPS is computed based on the weighted average number of shares of common stock plus the effect of dilutive potential common shares outstanding during the period using the treasury stock method. Dilutive potential common shares include outstanding stock options and stock awards.

The components of basic and diluted EPS were as follows:

 

(In millions, except earnings per share)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2018

 

 

2017

 

 

2016

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net income available for common shareholders (A)

 

$

16,571

 

 

$

25,489

 

 

$

20,539

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Weighted average outstanding shares of common stock (B)

 

 

7,700

 

 

 

7,746

 

 

 

7,925

 

Dilutive effect of stock-based awards

 

 

94

 

 

 

86

 

 

 

88

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Common stock and common stock equivalents (C)

 

 

7,794

 

 

 

7,832

 

 

 

8,013

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Earnings Per Share

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic (A/B)

 

$

2.15

 

 

$

3.29

 

 

$

2.59

 

Diluted (A/C)

 

$

2.13

 

 

$

3.25

 

 

$

2.56

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Anti-dilutive stock-based awards excluded from the calculations of diluted EPS were immaterial during the periods presented.

NOTE 3 — OTHER INCOME (EXPENSE), NET

The components of other income (expense), net were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2018

 

 

2017

 

 

2016

 

 

 

 

 

Dividends and interest income

 

$

2,214

 

 

$

1,387

 

 

$

903

 

Interest expense

 

 

 (2,733

)

 

 

 (2,222

)

 

 

 (1,243

)

Net recognized gains on investments

 

 

2,399

 

 

 

2,583

 

 

 

668

 

Net losses on derivatives

 

 

(187

)

 

 

(510

)

 

 

(443

)

Net losses on foreign currency remeasurements

 

 

(218

)

 

 

(111

)

 

 

(129

)

Other, net

 

 

(59

)

 

 

(251

)

 

 

(195

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

1,416

 

 

$

876

 

 

$

 (439

)

 

 

 

 

 

 

 

 

 

 

 

 

 

67


PART II

Item 8

 

Following are details of net recognized gains (losses) on investments during the periods reported:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2018

 

 

2017

 

 

2016

 

 

 

 

 

Other-than-temporary impairments of investments

 

$

(47

)

 

$

(55

)

 

$

(322

)

Realized gains from sales of available-for-sale securities

 

 

3,478

 

 

 

3,064

 

 

 

1,376

 

Realized losses from sales of available-for-sale securities

 

 

(1,032

)

 

 

(426

)

 

 

(386

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

2,399

 

 

$

2,583

 

 

$

668

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

NOTE 4 — INVESTMENTS

Investment Components

The components of investments, including associated derivatives, were as follows:

 

(In millions)

 

Cost Basis

 

 

Unrealized

Gains

 

 

Unrealized

Losses

 

 

Recorded

Basis

 

 

Cash

and Cash

Equivalents

 

 

Short-term

Investments

 

 

Equity

and Other

Investments

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2018

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash

 

$

3,942

 

 

$

0

 

 

$

0

 

 

$

3,942

 

 

$

3,942

 

 

$

0

 

 

$

0

 

Mutual funds

 

 

246

 

 

 

0

 

 

 

0

 

 

 

246

 

 

 

246

 

 

 

0

 

 

 

0

 

Commercial paper

 

 

2,513

 

 

 

0

 

 

 

0

 

 

 

2,513

 

 

 

2,215

 

 

 

298

 

 

 

0

 

Certificates of deposit

 

 

2,058

 

 

 

0

 

 

 

0

 

 

 

2,058

 

 

 

1,865

 

 

 

193

 

 

 

0

 

U.S. government and agency securities

 

 

109,862

 

 

 

62

 

 

 

(1,167

)

 

 

108,757

 

 

 

3,678

 

 

 

105,079

 

 

 

0

 

Foreign government bonds

 

 

5,182

 

 

 

1

 

 

 

(10

)

 

 

5,173

 

 

 

0

 

 

 

5,173

 

 

 

0

 

Mortgage- and asset-backed securities

 

 

3,868

 

 

 

4

 

 

 

(13

)

 

 

3,859

 

 

 

0

 

 

 

3,859

 

 

 

0

 

Corporate notes and bonds

 

 

6,947

 

 

 

21

 

 

 

(56

)

 

 

6,912

 

 

 

0

 

 

 

6,912

 

 

 

0

 

Municipal securities

 

 

271

 

 

 

37

 

 

 

(1

)

 

 

307

 

 

 

0

 

 

 

307

 

 

 

0

 

Common and preferred stock

 

 

1,220

 

 

 

95

 

 

 

(10

)

 

 

1,305

 

 

 

0

 

 

 

0

 

 

 

1,305

 

Other investments

 

 

558

 

 

 

0

 

 

 

0

 

 

 

558

 

 

 

0

 

 

 

1

 

 

 

557

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

136,667

 

 

$

220

 

 

$

 (1,257

)

 

$

135,630

 

 

$

11,946

 

 

$

121,822

 

 

$

1,862

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(In millions)

 

Cost Basis

 

 

Unrealized

Gains

 

 

Unrealized

Losses

 

 

Recorded

Basis

 

 

Cash

and Cash

Equivalents

 

 

Short-term

Investments

 

 

Equity

and Other

Investments

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2017

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash

 

$

3,624

 

 

$

0

 

 

$

0

 

 

$

3,624

 

 

$

3,624

 

 

$

0

 

 

$

0

 

Mutual funds

 

 

1,478

 

 

 

0

 

 

 

0

 

 

 

1,478

 

 

 

1,478

 

 

 

0

 

 

 

0

 

Commercial paper

 

 

319

 

 

 

0

 

 

 

0

 

 

 

319

 

 

 

69

 

 

 

250

 

 

 

0

 

Certificates of deposit

 

 

1,358

 

 

 

0

 

 

 

0

 

 

 

1,358

 

 

 

972

 

 

 

386

 

 

 

0

 

U.S. government and agency securities

 

 

112,119

 

 

 

85

 

 

 

(360

)

 

 

111,844

 

 

 

16

 

 

 

111,828

 

 

 

0

 

Foreign government bonds

 

 

5,276

 

 

 

2

 

 

 

(13

)

 

 

5,265

 

 

 

1,504

 

 

 

3,761

 

 

 

0

 

Mortgage- and asset-backed securities

 

 

3,921

 

 

 

14

 

 

 

(4

)

 

 

3,931

 

 

 

0

 

 

 

3,931

 

 

 

0

 

Corporate notes and bonds

 

 

4,786

 

 

 

61

 

 

 

(12

)

 

 

4,835

 

 

 

0

 

 

 

4,835

 

 

 

0

 

Municipal securities

 

 

284

 

 

 

43

 

 

 

0

 

 

 

327

 

 

 

0

 

 

 

327

 

 

 

0

 

Common and preferred stock

 

 

2,472

 

 

 

3,062

 

 

 

(34

)

 

 

5,500

 

 

 

0

 

 

 

0

 

 

 

5,500

 

Other investments

 

 

523

 

 

 

0

 

 

 

0

 

 

 

523

 

 

 

0

 

 

 

0

 

 

 

523

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

136,160

 

 

$

3,267

 

 

$

 (423

)

 

$

139,004

 

 

$

7,663

 

 

$

125,318

 

 

$

6,023

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

68


PART II

Item 8

 

As of June 30, 2018 and 2017, the recorded bases of common and preferred stock that are restricted for more than one year or are not publicly traded were $999 million and $1.1 billion, respectively. These investments are carried at cost and are reviewed quarterly for indicators of other-than-temporary impairment. It is not practicable for us to reliably estimate the fair value of these investments.

As of June 30, 2018 and 2017, collateral received under agreements for loaned securities was $1.8 billion and $3.7 billion, respectively, and primarily comprised U.S. government and agency securities.

Unrealized Losses on Investments

Investments with continuous unrealized losses for less than 12 months and 12 months or greater and their related fair values were as follows:

 

 

 

Less than 12 Months

 

 

12 Months or Greater

 

 

 

 

 

Total
Unrealized
Losses

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(In millions)

 

Fair Value

 

 

Unrealized
Losses

 

 

Fair Value

 

 

Unrealized
Losses

 

 

Total
Fair Value

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2018

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. government and agency securities

 

$

82,352

 

 

$

(1,064

)

 

$

4,459

 

 

$

(103

)

 

$

86,811

 

 

$

(1,167

)

Foreign government bonds

 

 

3,457

 

 

 

(7

)

 

 

13

 

 

 

(3

)

 

 

3,470

 

 

 

(10

)

Mortgage- and asset-backed securities

 

 

2,072

 

 

 

(9

)

 

 

96

 

 

 

(4

)

 

 

2,168

 

 

 

(13

)

Corporate notes and bonds

 

 

3,111

 

 

 

(43

)

 

 

301

 

 

 

(13

)

 

 

3,412

 

 

 

(56

)

Municipal securities

 

 

45

 

 

 

(1

)

 

 

0

 

 

 

0

 

 

 

45

 

 

 

(1

)

Common and preferred stock

 

 

75

 

 

 

(6

)

 

 

8

 

 

 

(4

)

 

 

83

 

 

 

(10

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

91,112

 

 

$

(1,130

)

 

$

4,877

 

 

$

 (127

)

 

$

95,989

 

 

$

(1,257

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Less than 12 Months

 

 

12 Months or Greater

 

 

 

 

 

Total
Unrealized
Losses

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(In millions)

 

Fair Value

 

 

Unrealized
Losses

 

 

Fair Value

 

 

Unrealized
Losses

 

 

Total
Fair Value

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2017

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. government and agency securities

 

$

87,558

 

 

$

(348

)

 

$

371

 

 

$

(12

)

 

$

87,929

 

 

$

(360

)

Foreign government bonds

 

 

4,006

 

 

 

(2

)

 

 

23

 

 

 

(11

)

 

 

4,029

 

 

 

(13

)

Mortgage- and asset-backed securities

 

 

1,068

 

 

 

(3

)

 

 

198

 

 

 

(1

)

 

 

1,266

 

 

 

(4

)

Corporate notes and bonds

 

 

669

 

 

 

(8

)

 

 

177

 

 

 

(4

)

 

 

846

 

 

 

(12

)

Common and preferred stock

 

 

69

 

 

 

(6

)

 

 

148

 

 

 

(28

)

 

 

217

 

 

 

(34

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

93,370

 

 

$

 (367

)

 

$

917

 

 

$

 (56

)

 

$

94,287

 

 

$

 (423

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Unrealized losses from fixed-income securities are primarily attributable to changes in interest rates. Unrealized losses from domestic and international equities are due to market price movements. Management does not believe any remaining unrealized losses represent other-than-temporary impairments based on our evaluation of available evidence.

Debt Investment Maturities

 

(In millions)

 

Cost Basis

 

 

Estimated

Fair Value

 

 

 

 

 

 

 

June 30, 2018

 

 

 

 

 

 

 

 

 

 

 

Due in one year or less

 

$

31,590

 

 

$

31,451

 

Due after one year through five years

 

 

76,422

 

 

 

75,810

 

Due after five years through 10 years

 

 

21,765

 

 

 

21,396

 

Due after 10 years

 

 

924

 

 

 

922

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

130,701

 

 

$

129,579

 

 

 

 

 

 

 

 

 

 

 

69


PART II

Item 8

 

NOTE 5 — DERIVATIVES

We use derivative instruments to manage risks related to foreign currencies, equity prices, interest rates, and credit; to enhance investment returns; and to facilitate portfolio diversification. Our objectives for holding derivatives include reducing, eliminating, and efficiently managing the economic impact of these exposures as effectively as possible.

Our derivative programs include strategies that both qualify and do not qualify for hedge accounting treatment. All notional amounts presented below are measured in U.S. dollar equivalents.

Foreign Currency

Certain forecasted transactions, assets, and liabilities are exposed to foreign currency risk. We monitor our foreign currency exposures daily to maximize the economic effectiveness of our foreign currency hedge positions. Option and forward contracts are used to hedge a portion of forecasted international revenue for up to three years in the future and are designated as cash flow hedging instruments. Principal currencies hedged include the euro, Japanese yen, British pound, Canadian dollar, and Australian dollar. As of June 30, 2018 and 2017, the total notional amounts of these foreign exchange contracts sold were $6.1 billion and $8.9 billion, respectively.

Foreign currency risks related to certain non-U.S. dollar denominated securities are hedged using foreign exchange forward contracts that are designated as fair value hedging instruments. As of June 30, 2018 and 2017, the total notional amounts of these foreign exchange contracts sold were $5.0 billion and $5.1 billion, respectively.

Certain options and forwards not designated as hedging instruments are also used to manage the variability in foreign exchange rates on certain balance sheet amounts and to manage other foreign currency exposures. As of June 30, 2018, the total notional amounts of these foreign exchange contracts purchased and sold were $9.4 billion and $13.4 billion, respectively. As of June 30, 2017, the total notional amounts of these foreign exchange contracts purchased and sold were $8.8 billion and $10.6 billion, respectively.

Equity

Securities held in our equity and other investments portfolio are subject to market price risk. Market price risk is managed relative to broad-based global and domestic equity indices using certain convertible preferred investments, options, futures, and swap contracts not designated as hedging instruments. From time to time, to hedge our price risk, we may use and designate equity derivatives as hedging instruments, including puts, calls, swaps, and forwards. As of June 30, 2018, the total notional amounts of equity contracts purchased and sold for managing market price risk were $49 million and $5 million, respectively. As of June 30, 2017, the total notional amounts of equity contracts purchased and sold for managing market price risk were $1.9 billion and $2.4 billion, respectively, of which $1.6 billion and $1.8 billion, respectively, were designated as hedging instruments.

Interest Rate

Securities held in our fixed-income portfolio are subject to different interest rate risks based on their maturities. We manage the average maturity of our fixed-income portfolio to achieve economic returns that correlate to certain broad-based fixed-income indices using exchange-traded option and futures contracts, and over-the-counter swap and option contracts, none of which are designated as hedging instruments. As of June 30, 2018, the total notional amounts of fixed-interest rate contracts purchased and sold were $306 million and $390 million, respectively. As of June 30, 2017, the total notional amounts of fixed-interest rate contracts purchased and sold were $233 million and $352 million, respectively.

In addition, we use “To Be Announced” forward purchase commitments of mortgage-backed assets to gain exposure to agency mortgage-backed securities. These meet the definition of a derivative instrument in cases where physical delivery of the assets is not taken at the earliest available delivery date. As of June 30, 2018 and 2017, the total notional derivative amounts of mortgage contracts purchased were $568 million and $567 million, respectively.

70


PART II

Item 8

 

Credit

Our fixed-income portfolio is diversified and consists primarily of investment-grade securities. We use credit default swap contracts, not designated as hedging instruments, to manage credit exposures relative to broad-based indices and to facilitate portfolio diversification. We use credit default swaps as they are a low-cost method of managing exposure to individual credit risks or groups of credit risks. As of June 30, 2018, the total notional amounts of credit contracts purchased and sold were $4 million and $82 million, respectively. As of June 30, 2017, the total notional amounts of credit contracts purchased and sold were $267 million and $63 million, respectively.

Credit-Risk-Related Contingent Features

Certain of our counterparty agreements for derivative instruments contain provisions that require our issued and outstanding long-term unsecured debt to maintain an investment grade credit rating and require us to maintain minimum liquidity of $1.0 billion. To the extent we fail to meet these requirements, we will be required to post collateral, similar to the standard convention related to over-the-counter derivatives. As of June 30, 2018, our long-term unsecured debt rating was AAA, and cash investments were in excess of $1.0 billion. As a result, no collateral was required to be posted.

Fair Values of Derivative Instruments

The following table presents the fair values of derivative instruments designated as hedging instruments (“designated hedge derivatives”) and not designated as hedging instruments (“non-designated hedge derivatives”). The fair values exclude the impact of netting derivative assets and liabilities when a legally enforceable master netting agreement exists and fair value adjustments related to our own credit risk and counterparty credit risk:

 

 

 

 

Assets

 

 

 

Liabilities

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(In millions)

 

Short-term
Investments

 

Other
Current
Assets

 

Equity and
Other
Investments

 

Other

Long-term Assets

 

Other
Current
Liabilities

 

Other

Long-term Liabilities

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2018

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Non-designated Hedge Derivatives

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Foreign exchange contracts

 

$

10

 

 

$

221

 

 

$

0

 

 

$

25

 

 

$

(193

)

 

$

(4

)

Equity contracts

 

 

2

 

 

 

0

 

 

 

0

 

 

 

0

 

 

 

(7

)

 

 

0

 

Interest rate contracts

 

 

11

 

 

 

0

 

 

 

0

 

 

 

0

 

 

 

(2

)

 

 

0

 

Credit contracts

 

 

0

 

 

 

0

 

 

 

0

 

 

 

0

 

 

 

(1

)

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

23

 

 

$

221

 

 

$

0

 

 

$

25

 

 

$

(203

)

 

$

(4

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Designated Hedge Derivatives

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Foreign exchange contracts

 

$

95

 

 

$

174

 

 

$

0

 

 

$

0

 

 

$

0

 

 

$

0

 

Equity contracts

 

 

0

 

 

 

0

 

 

 

0

 

 

 

0

 

 

 

0

 

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

95

 

 

$

174

 

 

$

0

 

 

$

0

 

 

$

0

 

 

$

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total gross amounts of derivatives

 

$

118

 

 

$

395

 

 

$

0

 

 

$

25

 

 

$

(203

)

 

$

(4

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross derivatives either offset or subject to an enforceable master netting agreement

 

$

113

 

 

$

395

 

 

$

0

 

 

$

25

 

 

$

(203

)

 

$

 (4

)

Gross amounts of derivatives offset on the balance sheet

 

 

 (14

)

 

 

(135

)

 

 

0

 

 

 

(3

)

 

 

150

 

 

 

3

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net amounts presented on the balance sheet

 

 

99

 

 

 

260

 

 

 

0

 

 

 

22

 

 

 

(53

)

 

 

(1

)

Gross amounts of derivatives not offset on the balance sheet

 

 

0

 

 

 

0

 

 

 

0

 

 

 

0

 

 

 

0

 

 

 

0

 

Cash collateral received

 

 

0

 

 

 

0

 

 

 

0

 

 

 

0

 

 

 

(235

)

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net amount

 

$

99

 

 

$

260

 

 

$

0

 

 

$

22

 

 

$

 (288

)

 

$

(1

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

71


PART II

Item 8

 

 

 

Assets

 

Liabilities

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(In millions)

 

Short-term
Investments

 

Other
Current
Assets

 

Equity and
Other
Investments

 

Other

Long-term Assets

 

Other
Current
Liabilities

 

Other

Long-term Liabilities

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2017

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Non-designated Hedge Derivatives

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Foreign exchange contracts

 

$

9

 

 

$

203

 

 

$

0

 

 

$

6

 

 

$

(134

)

 

$

(8

)

Equity contracts

 

 

3

 

 

 

0

 

 

 

0

 

 

 

0

 

 

 

(6

)

 

 

0

 

Interest rate contracts

 

 

3

 

 

 

0

 

 

 

0

 

 

 

0

 

 

 

(7

)

 

 

0

 

Credit contracts

 

 

5

 

 

 

0

 

 

 

0

 

 

 

0

 

 

 

(1

)

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

20

 

 

$

203

 

 

$

0

 

 

$

6

 

 

$

(148

)

 

$

(8

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Designated Hedge Derivatives

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Foreign exchange contracts

 

$

80

 

 

$

133

 

 

$

0

 

 

$

0

 

 

$

(3

)

 

$

0

 

Equity contracts

 

 

0

 

 

 

0

 

 

 

67

 

 

 

0

 

 

 

(186

)

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

80

 

 

$

133

 

 

$

67

 

 

$

0

 

 

$

(189

)

 

$

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total gross amounts of derivatives

 

$

100

 

 

$

336

 

 

$

67

 

 

$

6

 

 

$

(337

)

 

$

(8

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gross derivatives either offset or subject to an enforceable master netting agreement

 

$

100

 

 

$

336

 

 

$

67

 

 

$

6

 

 

$

(334

)

 

$

 (8

)

Gross amounts of derivatives offset on the balance sheet

 

 

 (20

)

 

 

 (132

)

 

 

 (67

)

 

 

 (8

)

 

 

221

 

 

 

7

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net amounts presented on the balance sheet

 

 

80

 

 

 

204

 

 

 

0

 

 

 

 (2

)

 

 

(113

)

 

 

(1

)

Gross amounts of derivatives not offset on the balance sheet

 

 

0

 

 

 

0

 

 

 

0

 

 

 

0

 

 

 

0

 

 

 

0

 

Cash collateral received

 

 

0

 

 

 

0

 

 

 

0

 

 

 

0

 

 

 

(228

)

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net amount

 

$

80

 

 

$

204

 

 

$

0

 

 

$

 (2

)

 

$

 (341

)

 

$

(1

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Refer to Note 4 – Investments and Note 6 – Fair Value Measurements for further information.

 

Fair Value Hedge Gains (Losses)

We recognized in other income (expense), net the following gains (losses) on contracts designated as fair value hedges and their related hedged items:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2018

 

 

2017

 

 

2016

 

 

 

 

 

Foreign Exchange Contracts

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Derivatives

 

$

25

 

 

$

441

 

 

$

 (797

)

Hedged items

 

 

78

 

 

 

 (386

)

 

 

838

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total amount of ineffectiveness

 

$

103

 

 

$

55

 

 

$

41

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Equity Contracts

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Derivatives

 

$

(324

)

 

$

(74

)

 

$

(76

)

Hedged items

 

 

324

 

 

 

74

 

 

 

76

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total amount of ineffectiveness

 

$

0

 

 

$

0

 

 

$

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Amount of equity contracts excluded from effectiveness assessment

 

$

80

 

 

$

 (80

)

 

$

 (10

)

 

 

 

 

 

 

 

 

 

 

 

72


PART II

Item 8

 

Cash Flow Hedge Gains (Losses)

We recognized the following gains (losses) on foreign exchange contracts designated as cash flow hedges:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2018

 

 

2017

 

 

2016

 

 

 

 

 

Effective Portion

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Gains recognized in other comprehensive income (net of tax of $11, $4, and $24)

 

$

219

 

 

$

328

 

 

$

351

 

Gains reclassified from accumulated other comprehensive income (loss) into revenue

 

 

185

 

 

 

555

 

 

 

625

 

 

 

 

 

Amount Excluded from Effectiveness Assessment and Ineffective Portion

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Losses recognized in other income (expense), net

 

 

 (255

)

 

 

 (389

)

 

 

 (354

)

 

 

 

We estimate that $179 million of net derivative gains included in AOCI as of June 30, 2018 will be reclassified into earnings within the following 12 months. No significant amounts of gains (losses) were reclassified from AOCI into earnings as a result of forecasted transactions that failed to occur during fiscal year 2018.

Non-designated Derivative Gains (Losses)

Gains (losses) from changes in fair values of derivatives that are not designated as hedges are primarily recognized in other income (expense), net. These amounts are shown in the table below, with the exception of gains (losses) on derivatives presented in income statement line items other than other income (expense), net, which were immaterial for the periods presented.

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2018

 

 

2017

 

 

2016

 

 

 

 

 

Foreign exchange contracts

 

$

(33

)

 

$

(117

)

 

$

(55

)

Equity contracts

 

 

(87

)

 

 

(114

)

 

 

(21

)

Interest rate contracts

 

 

(15

)

 

 

14

 

 

 

10

 

Credit contracts

 

 

(2

)

 

 

5

 

 

 

(1

)

Other contracts

 

 

0

 

 

 

(22

)

 

 

(87

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

 (137

)

 

$

 (234

)

 

$

 (154

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

73


PART II

Item 8

 

NOTE 6 — FAIR VALUE MEASUREMENTS

Financial Assets and Liabilities Measured at Fair Value on a Recurring Basis

The following tables present the fair value of our financial instruments that are measured at fair value on a recurring basis:

 

(In millions)

 

 

Level 1

 

 

 

Level 2

 

 

 

Level 3

 

 

 

Gross Fair

Value

 

 

 

Netting

(a)

 

 

Net Fair
Value

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2018

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Assets

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Mutual funds

 

$

246

 

 

$

0

 

 

$

0

 

 

$

246

 

 

$

0

 

 

$

246

 

Commercial paper

 

 

0

 

 

 

2,513

 

 

 

0

 

 

 

2,513

 

 

 

0

 

 

 

2,513

 

Certificates of deposit

 

 

0

 

 

 

2,058

 

 

 

0

 

 

 

2,058

 

 

 

0

 

 

 

2,058

 

U.S. government and agency securities

 

 

107,015

 

 

 

1,742

 

 

 

0

 

 

 

108,757

 

 

 

0

 

 

 

108,757

 

Foreign government bonds

 

 

22

 

 

 

5,054

 

 

 

0

 

 

 

5,076

 

 

 

0

 

 

 

5,076

 

Mortgage- and asset-backed securities

 

 

0

 

 

 

3,855

 

 

 

0

 

 

 

3,855

 

 

 

0

 

 

 

3,855

 

Corporate notes and bonds

 

 

0

 

 

 

6,894

 

 

 

15

 

 

 

6,909

 

 

 

0

 

 

 

6,909

 

Municipal securities

 

 

0

 

 

 

307

 

 

 

0

 

 

 

307

 

 

 

0

 

 

 

307

 

Common and preferred stock

 

 

287

 

 

 

0

 

 

 

18

 

 

 

305

 

 

 

0

 

 

 

305

 

Derivatives

 

 

1

 

 

 

535

 

 

 

2

 

 

 

538

 

 

 

(152

)

 

 

386

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

107,571

 

 

$

22,958

 

 

$

35

 

 

$

130,564

 

 

$

 (152

)

 

$

130,412

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Liabilities

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Derivatives and other

 

$

1

 

 

$

206

 

 

$

0

 

 

$

207

 

 

$

(153

)

 

$

54

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(In millions)

 

 

Level 1

 

 

 

Level 2

 

 

 

Level 3

 

 

 

Gross Fair

Value

 

 

 

Netting

(a)

 

 

Net Fair
Value

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30, 2017

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Assets

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Mutual funds

 

$

1,478

 

 

$

0

 

 

$

0

 

 

$

1,478

 

 

$

0

 

 

$

1,478

 

Commercial paper

 

 

0

 

 

 

319

 

 

 

0

 

 

 

319

 

 

 

0

 

 

 

319

 

Certificates of deposit

 

 

0

 

 

 

1,358

 

 

 

0

 

 

 

1,358

 

 

 

0

 

 

 

1,358

 

U.S. government and agency securities

 

 

109,228

 

 

 

2,616

 

 

 

0

 

 

 

111,844

 

 

 

0

 

 

 

111,844

 

Foreign government bonds

 

 

0

 

 

 

5,187

 

 

 

0

 

 

 

5,187

 

 

 

0

 

 

 

5,187

 

Mortgage- and asset-backed securities

 

 

0

 

 

 

3,934

 

 

 

0

 

 

 

3,934

 

 

 

0

 

 

 

3,934

 

Corporate notes and bonds

 

 

0

 

 

 

4,829

 

 

 

1

 

 

 

4,830

 

 

 

0

 

 

 

4,830

 

Municipal securities

 

 

0

 

 

 

327

 

 

 

0

 

 

 

327

 

 

 

0

 

 

 

327

 

Common and preferred stock

 

 

2,414

 

 

 

1,994

 

 

 

18

 

 

 

4,426

 

 

 

0

 

 

 

4,426

 

Derivatives

 

 

1

 

 

 

508

 

 

 

0

 

 

 

509

 

 

 

(227

)

 

 

282

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

113,121

 

 

$

21,072

 

 

$

19

 

 

$

134,212

 

 

$

 (227

)

 

$

133,985

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Liabilities

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Derivatives and other

 

$

0

 

 

$

345

 

 

$

39

 

 

$

384

 

 

$

(228

)

 

$

156

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(a)

These amounts represent the impact of netting derivative assets and derivative liabilities when a legally enforceable master netting agreement exists and fair value adjustments related to our own credit risk and counterparty credit risk.

The changes in our Level 3 financial instruments that are measured at fair value on a recurring basis were immaterial during the periods presented.

74


PART II

Item 8

 

The following table reconciles the total “Net Fair Value” of assets above to the balance sheet presentation of these same assets in Note 4 – Investments.

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30,

 

 

2018

 

 

 

2017

 

 

 

 

 

 

 

 

 

 

Net fair value of assets measured at fair value on a recurring basis

 

$

130,412

 

 

$

133,985

 

Cash

 

 

3,942

 

 

 

3,624

 

Common and preferred stock measured at fair value on a nonrecurring basis

 

 

999

 

 

 

1,073

 

Other investments measured at fair value on a nonrecurring basis

 

 

557

 

 

 

523

 

Less derivative net assets classified as other current and long-term assets

 

 

(282

)

 

 

(202

)

Other

 

 

2

 

 

 

1

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Recorded basis of investment components

 

$

135,630

 

 

$

139,004

 

 

 

 

 

 

 

 

 

 

 

Financial Assets and Liabilities Measured at Fair Value on a Nonrecurring Basis

During fiscal year 2018 and 2017, we did not record any material other-than-temporary impairments on financial assets required to be measured at fair value on a nonrecurring basis.

NOTE 7 — INVENTORIES

The components of inventories were as follows:

 

(In millions)

 

 

 

 

 

 

 

June 30,

 

2018

 

 

2017

 

 

 

 

Raw materials

 

$

655

 

 

$

797

 

Work in process

 

 

54

 

 

 

145

 

Finished goods

 

 

1,953

 

 

 

1,239

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

2,662

 

 

$

2,181

 

 

 

 

 

 

 

 

 

 

 

NOTE 8 — PROPERTY AND EQUIPMENT

The components of property and equipment were as follows:

 

(In millions)

 

 

 

 

 

 

 

June 30,

 

2018

 

 

2017

 

 

 

 

Land

 

$

1,254

 

 

$

1,107

 

Buildings and improvements

 

 

20,604

 

 

 

16,284

 

Leasehold improvements

 

 

4,735

 

 

 

5,064

 

Computer equipment and software

 

 

27,633

 

 

 

21,414

 

Furniture and equipment

 

 

4,457

 

 

 

4,044

 

 

 

 

 

 

 

 

 

 

 

 

 

Total, at cost

 

 

58,683

 

 

 

47,913

 

Accumulated depreciation

 

 

(29,223

)

 

 

(24,179

)

 

 

 

 

 

 

 

 

 

 

 

 

Total, net

 

$

29,460

 

 

$

23,734

 

 

 

 

 

 

 

 

 

 

 

During fiscal years 2018, 2017, and 2016, depreciation expense was $7.7 billion, $6.1 billion, and $4.9 billion, respectively. We have committed $1.9 billion for the construction of new buildings, building improvements, and leasehold improvements as of June 30, 2018.

 

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NOTE 9 — BUSINESS COMBINATIONS

LinkedIn Corporation

On December 8, 2016, we completed our acquisition of all issued and outstanding shares of LinkedIn Corporation, the world’s largest professional network on the Internet, for a total purchase price of $27.0 billion. The purchase price consisted primarily of cash of $26.9 billion. The acquisition is expected to accelerate the growth of LinkedIn, Office 365, and Dynamics 365. The financial results of LinkedIn have been included in our consolidated financial statements since the date of the acquisition.

The allocation of the purchase price to goodwill was completed as of June 30, 2017.

The major classes of assets and liabilities to which we allocated the purchase price were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

1,328

 

Short-term investments

 

 

2,110

 

Other current assets

 

 

697

 

Property and equipment

 

 

1,529

 

Intangible assets

 

 

7,887

 

Goodwill (a)

 

 

16,803

 

Short-term debt (b)

 

 

(1,323

)

Other current liabilities

 

 

(1,117

)

Deferred income taxes

 

 

(774

)

Other

 

 

(131

)

 

 

 

 

 

 

 

 

 

 

Total purchase price

 

$

27,009

 

 

 

 

 

 

 

(a)

Goodwill was assigned to our Productivity and Business Processes segment. The goodwill was primarily attributed to increased synergies that are expected to be achieved from the integration of LinkedIn. None of the goodwill is expected to be deductible for income tax purposes.

(b)

Convertible senior notes issued by LinkedIn on November 12, 2014, substantially all of which were redeemed after our acquisition of LinkedIn. The remaining $18 million of notes are not redeemable and are included in long-term debt in our consolidated balance sheets. Refer to Note 12 – Debt for further information.

Following are the details of the purchase price allocated to the intangible assets acquired:

 

(In millions)

 

Amount

 

 

Weighted

Average Life

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Customer-related

 

$

3,607

 

 

 

7 years

 

Marketing-related (trade names)

 

 

2,148

 

 

 

20 years

 

Technology-based

 

 

2,109

 

 

 

3 years

 

Contract-based

 

 

23

 

 

 

5 years

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fair value of intangible assets acquired

 

$

7,887

 

 

 

9 years

 

 

 

 

 

 

 

 

 

Our consolidated income statements include the following revenue and operating loss attributable to LinkedIn since the date of acquisition:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

 

 

2017

 

 

 

 

 

 

 

Revenue

 

 

$

2,271

 

Operating loss

 

 

 

(924

)

 

 

 

 

 

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PART II

Item 8

 

Following are the supplemental consolidated financial results of Microsoft Corporation on an unaudited pro forma basis, as if the acquisition had been consummated on July 1, 2015:

 

(In millions, except earnings per share)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

 

2017

 

 

 

2016

 

 

 

 

 

 

 

 

 

 

Revenue

 

$

98,291

 

 

$

94,490

 

Net income

 

 

25,179

 

 

 

19,128

 

Diluted earnings per share

 

 

3.21

 

 

 

2.38

 

 

 

 

 

 

 

 

 

 

 

These pro forma results were based on estimates and assumptions, which we believe are reasonable. They are not the results that would have been realized had we been a combined company during the periods presented and are not necessarily indicative of our consolidated results of operations in future periods. The pro forma results include adjustments related to purchase accounting, primarily amortization of intangible assets. Acquisition costs and other nonrecurring charges were immaterial and are included in the earliest period presented.

GitHub Inc.

On June 4, 2018, we entered into a definitive agreement to acquire GitHub Inc. (“GitHub”) for $7.5 billion in an all-stock transaction. We expect the acquisition will close by the end of the calendar year, subject to approval by GitHub’s shareholders, satisfaction of certain regulatory approvals, and other customary closing conditions. GitHub will be included in our consolidated results of operations as of the date of acquisition.

Other

During fiscal year 2018, we completed nine acquisitions for total consideration of $948 million, substantially all of which was paid in cash. These entities have been included in our consolidated results of operations since their respective acquisition dates. Pro forma results of operations for these acquisitions have not been presented because the effects of these business combinations, individually and in aggregate, were not material to our consolidated results of operations.

NOTE 10 — GOODWILL

Changes in the carrying amount of goodwill were as follows:

 

(In millions)

 

June 30,

2016

 

Acquisitions

 

Other

 

June 30,

2017

 

Acquisitions

 

Other

 

June 30,
2018

 

 

 

 

 

 

 

 

 

 

Productivity and Business Processes

 

 

$

6,678

 

 

$

17,072

(a)

 

$

(11

)

 

$

23,739

 

 

$

72

 

 

$

12

 

 

$

23,823

 

Intelligent Cloud

 

 

 

5,467

 

 

 

49

 

 

 

39

 

 

 

5,555

 

 

 

164

 

 

 

(16

)

 

 

5,703

 

More Personal Computing

 

 

 

5,727

 

 

 

115

 

 

 

(14

)

 

 

5,828

 

 

 

394

 

 

 

(65

)

 

 

6,157

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

 

$

17,872

 

 

$

17,236

 

 

$

14

 

 

$

35,122

 

 

$

630

 

 

$

 (69

)

 

$

35,683

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(a)

Includes goodwill related to LinkedIn and other acquisitions. Refer to Note 9 – Business Combinations for further information.

The measurement periods for the valuation of assets acquired and liabilities assumed end as soon as information on the facts and circumstances that existed as of the acquisition dates becomes available, but do not exceed 12 months. Adjustments in purchase price allocations may require a change in the amounts allocated to goodwill during the periods in which the adjustments are determined.

Any change in the goodwill amounts resulting from foreign currency translations and purchase accounting adjustments are presented as “Other” in the above table. Also included in “Other” are business dispositions and transfers between segments due to reorganizations, as applicable.

As of June 30, 2018 and 2017, accumulated goodwill impairment was $11.3 billion.

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Goodwill Impairment

We test goodwill for impairment annually on May 1 at the reporting unit level, primarily using a discounted cash flow methodology with a peer-based, risk-adjusted weighted average cost of capital. We believe use of a discounted cash flow approach is the most reliable indicator of the fair values of the businesses.

No instances of impairment were identified in our May 1, 2018, May 1, 2017, or May 1, 2016 tests.

NOTE 11 — INTANGIBLE ASSETS

The components of intangible assets, all of which are finite-lived, were as follows:

 

(In millions)

 

Gross
Carrying
Amount

 

 

Accumulated
Amortization

 

 

Net Carrying
Amount

 

 

Gross
Carrying
Amount

 

 

Accumulated
Amortization

 

 

Net Carrying
Amount

 

 

 

 

 

 

 

 

 

 

 

June 30,

 

 

 

 

 

 

 

2018

 

 

 

 

 

 

 

 

2017

 

 

 

 

 

 

 

 

Technology-based

 

$

7,220

 

 

$

(5,018

)

 

$

2,202

 

 

$

7,765

 

 

$

(4,318

)

 

$

3,447

 

Customer-related

 

 

4,031

 

 

 

(1,205

)

 

 

2,826

 

 

 

4,045

 

 

 

(692

)

 

 

3,353

 

Marketing-related

 

 

4,006

 

 

 

(1,071

)

 

 

2,935

 

 

 

4,016

 

 

 

(829

)

 

 

3,187

 

Contract-based

 

 

679

 

 

 

(589

)

 

 

90

 

 

 

841

 

 

 

(722

)

 

 

119

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

15,936

 

 

$

 (7,883

)

 

$

8,053

 

 

$

16,667

 

 

$

 (6,561

)

 

$

10,106

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

No material impairments of intangible assets were identified during fiscal year 2018 or 2017.

During fiscal year 2016, we recorded impairment charges of $480 million related to intangible assets in the Devices reporting unit within our More Personal Computing segment. In the fourth quarter of fiscal year 2016, we tested these intangible assets for recoverability due to changes in facts and circumstances associated with the shift in strategic direction and reduced profitability expectations for our Phone business. Based on the results of our testing, we determined that the carrying value of the intangible assets was not recoverable, and an impairment charge was recorded to the extent that estimated fair value exceeded carrying value. We primarily used the income approach to determine the fair value of the intangible assets and determine the amount of impairment.

These intangible assets impairment charges were included in impairment and restructuring expenses in our consolidated income statement and reflected in Corporate and Other in our table of operating income (loss) by segment in Note 21 – Segment Information and Geographic Data.

We estimate that we have no significant residual value related to our intangible assets.

The components of intangible assets acquired during the periods presented were as follows:

 

(In millions)

 

Amount

 

 

Weighted

Average Life

 

 

Amount

 

 

Weighted

Average Life

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2018

 

 

 

 

 

2017

 

 

 

 

 

 

 

 

 

Technology-based

 

$

178

 

 

 

4 years

 

 

$

2,265

 

 

 

2 years

 

Marketing-related

 

 

14

 

 

 

5 years

 

 

 

2,148

 

 

 

19 years

 

Contract-based

 

 

14

 

 

 

4 years

 

 

 

63

 

 

 

6 years

 

Customer-related

 

 

13

 

 

 

5 years

 

 

 

3,607

 

 

 

7 years

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

219

 

 

 

5 years

 

 

$

8,083

 

 

 

9 years

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Intangible assets amortization expense was $2.2 billion, $1.7 billion, and $978 million for fiscal years 2018, 2017, and 2016, respectively. Amortization of capitalized software was $54 million, $55 million, and $69 million for fiscal years 2018, 2017, and 2016, respectively.

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The following table outlines the estimated future amortization expense related to intangible assets held as of June 30, 2018:

 

(In millions)

 

 

 

 

 

 

 

 

Year Ending June 30,

 

 

 

 

 

 

2019

 

$

1,785

 

2020

 

 

1,260

 

2021

 

 

1,043

 

2022

 

 

949

 

2023

 

 

806

 

Thereafter

 

 

2,210

 

 

 

 

 

 

 

 

Total

 

$

8,053

 

 

 

 

 

 

 

NOTE 12 — DEBT

Short-term Debt

As of June 30, 2018, we had no commercial paper issued and outstanding. As of June 30, 2017, we had $9.1 billion of commercial paper issued and outstanding, with a weighted average interest rate of 1.01% and maturities ranging from 25 days to 264 days. The estimated fair value of this commercial paper approximates its carrying value.

We have two $5.0 billion credit facilities that expire on October 30, 2018 and October 31, 2022, respectively. These credit facilities serve as a back-up for our commercial paper program. As of June 30, 2018, we were in compliance with the only financial covenant in both credit agreements, which requires us to maintain a coverage ratio of at least three times earnings before interest, taxes, depreciation, and amortization to interest expense, as defined in the credit agreements. No amounts were drawn against these credit facilities during any of the periods presented.

Long-term Debt

As of June 30, 2018, the total carrying value and estimated fair value of our long-term debt, including the current portion, were $76.2 billion and $77.5 billion, respectively. As of June 30, 2017, the total carrying value and estimated fair value of our long-term debt, including the current portion, were $77.1 billion and $80.3 billion, respectively. These estimated fair values are based on Level 2 inputs.

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The components of our long-term debt, including the current portion, and the associated interest rates were as follows:

 

(In millions, except interest rates)

 

Face Value June 30,

2018

 

 

Face Value June 30,

2017

 

 

 

Stated

Interest

Rate

 

 

 

Effective

Interest

Rate

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Notes

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

November 15, 2017

 

$

0

 

 

$

600

 

 

 

0.875%

 

 

 

1.084%

 

May 1, 2018

 

 

0

 

 

 

450

 

 

 

1.000%

 

 

 

1.106%

 

November 3, 2018

 

 

1,750

 

 

 

1,750

 

 

 

1.300%

 

 

 

1.396%

 

December 6, 2018

 

 

1,250

 

 

 

1,250

 

 

 

1.625%

 

 

 

1.824%

 

June 1, 2019

 

 

1,000

 

 

 

1,000

 

 

 

4.200%

 

 

 

4.379%

 

August 8, 2019

 

 

2,500

 

 

 

2,500

 

 

 

1.100%

 

 

 

1.203%

 

November 1, 2019

 

 

18

 

 

 

18

 

 

 

0.500%

 

 

 

0.500%

 

February 6, 2020

 

 

1,500

 

 

 

1,500

 

 

 

1.850%

 

 

 

1.952%

 

February 12, 2020

 

 

1,500

 

 

 

1,500

 

 

 

1.850%

 

 

 

1.935%

 

October 1, 2020

 

 

1,000

 

 

 

1,000

 

 

 

3.000%

 

 

 

3.137%

 

November 3, 2020

 

 

2,250

 

 

 

2,250

 

 

 

2.000%

 

 

 

2.093%

 

February 8, 2021

 

 

500

 

 

 

500

 

 

 

4.000%

 

 

 

4.082%

 

August 8, 2021

 

 

2,750

 

 

 

2,750

 

 

 

1.550%

 

 

 

1.642%

 

December 6, 2021 (a)

 

 

2,044

 

 

 

1,996

 

 

 

2.125%

 

 

 

2.233%

 

February 6, 2022

 

 

1,750

 

 

 

1,750

 

 

 

2.400%

 

 

 

2.520%

 

February 12, 2022

 

 

1,500

 

 

 

1,500

 

 

 

2.375%

 

 

 

2.466%

 

November 3, 2022

 

 

1,000

 

 

 

1,000

 

 

 

2.650%

 

 

 

2.717%

 

November 15, 2022

 

 

750

 

 

 

750

 

 

 

2.125%

 

 

 

2.239%

 

May 1, 2023

 

 

1,000

 

 

 

1,000

 

 

 

2.375%

 

 

 

2.465%

 

August 8, 2023

 

 

1,500

 

 

 

1,500

 

 

 

2.000%

 

 

 

2.101%

 

December 15, 2023

 

 

1,500

 

 

 

1,500

 

 

 

3.625%

 

 

 

3.726%

 

February 6, 2024

 

 

2,250

 

 

 

2,250

 

 

 

2.875%

 

 

 

3.041%

 

February 12, 2025

 

 

2,250

 

 

 

2,250

 

 

 

2.700%

 

 

 

2.772%

 

November 3, 2025

 

 

3,000

 

 

 

3,000

 

 

 

3.125%

 

 

 

3.176%

 

August 8, 2026

 

 

4,000

 

 

 

4,000

 

 

 

2.400%

 

 

 

2.464%

 

February 6, 2027

 

 

4,000

 

 

 

4,000

 

 

 

3.300%

 

 

 

3.383%

 

December 6, 2028 (a)

 

 

2,044

 

 

 

1,996

 

 

 

3.125%

 

 

 

3.218%

 

May 2, 2033 (a)

 

 

642

 

 

 

627

 

 

 

2.625%

 

 

 

2.690%

 

February 12, 2035

 

 

1,500

 

 

 

1,500

 

 

 

3.500%

 

 

 

3.604%

 

November 3, 2035

 

 

1,000

 

 

 

1,000

 

 

 

4.200%

 

 

 

4.260%

 

August 8, 2036

 

 

2,250

 

 

 

2,250

 

 

 

3.450%

 

 

 

3.510%

 

February 6, 2037

 

 

2,500

 

 

 

2,500

 

 

 

4.100%

 

 

 

4.152%

 

June 1, 2039

 

 

750

 

 

 

750

 

 

 

5.200%

 

 

 

5.240%

 

October 1, 2040

 

 

1,000

 

 

 

1,000

 

 

 

4.500%

 

 

 

4.567%

 

February 8, 2041

 

 

1,000

 

 

 

1,000

 

 

 

5.300%

 

 

 

5.361%

 

November 15, 2042

 

 

900

 

 

 

900

 

 

 

3.500%

 

 

 

3.571%

 

May 1, 2043

 

 

500

 

 

 

500

 

 

 

3.750%

 

 

 

3.829%

 

December 15, 2043

 

 

500

 

 

 

500

 

 

 

4.875%

 

 

 

4.918%

 

February 12, 2045

 

 

1,750

 

 

 

1,750

 

 

 

3.750%

 

 

 

3.800%

 

November 3, 2045

 

 

3,000

 

 

 

3,000

 

 

 

4.450%

 

 

 

4.492%

 

August 8, 2046

 

 

4,500

 

 

 

4,500

 

 

 

3.700%

 

 

 

3.743%

 

February 6, 2047

 

 

3,000

 

 

 

3,000

 

 

 

4.250%

 

 

 

4.287%

 

February 12, 2055

 

 

2,250

 

 

 

2,250

 

 

 

4.000%

 

 

 

4.063%

 

November 3, 2055

 

 

1,000

 

 

 

1,000

 

 

 

4.750%

 

 

 

4.782%

 

August 8, 2056

 

 

2,250

 

 

 

2,250

 

 

 

3.950%

 

 

 

4.033%

 

February 6, 2057

 

 

2,000

 

 

 

2,000

 

 

 

4.500%

 

 

 

4.528%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

76,898

 

 

$

77,837

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(a)

Euro-denominated debt securities.

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PART II

Item 8

 

The notes in the table above are senior unsecured obligations and rank equally with our other senior unsecured debt outstanding. Interest on these notes is paid semi-annually, except for the euro-denominated debt securities on which interest is paid annually. Cash paid for interest on our debt for fiscal years 2018, 2017, and 2016 was $2.4 billion, $1.6 billion, and $1.1 billion, respectively. As of June 30, 2018 and 2017, the aggregate debt issuance costs and unamortized discount associated with our long-term debt, including the current portion, were $658 million and $715 million, respectively.

Maturities of our long-term debt for each of the next five years and thereafter are as follows:

 

(In millions)

 

 

 

 

 

 

 

 

Year Ending June 30,

 

 

 

 

 

 

2019

 

$

4,000

 

2020

 

 

5,518

 

2021

 

 

3,750

 

2022

 

 

8,044

 

2023

 

 

2,750

 

Thereafter

 

 

52,836

 

 

 

 

 

Total

 

$

76,898

 

 

 

 

 

 

 

NOTE 13 — INCOME TAXES

Recent Tax Legislation

On December 22, 2017, the TCJA was enacted into law, which significantly changes existing U.S. tax law and includes numerous provisions that affect our business, such as imposing a one-time transition tax on deemed repatriation of deferred foreign income, reducing the U.S. federal statutory tax rate, and adopting a territorial tax system. The TCJA required us to incur a one-time transition tax on deferred foreign income not previously subject to U.S. income tax at a rate of 15.5% for foreign cash and certain other net current assets, and 8% on the remaining income. The TCJA also reduced the U.S. federal statutory tax rate from 35% to 21% effective January 1, 2018. For fiscal year 2018, our blended U.S. federal statutory tax rate is 28.1%. This is the result of using the tax rate of 35% for the first and second quarter of fiscal year 2018 and the reduced tax rate of 21% for the third and fourth quarter of fiscal year 2018. The TCJA includes a provision to tax global intangible low-taxed income (“GILTI”) of foreign subsidiaries and a base erosion anti-abuse tax (“BEAT”) measure that taxes certain payments between a U.S. corporation and its foreign subsidiaries. The GILTI and BEAT provisions of the TCJA will be effective for us beginning July 1, 2018.

The TCJA was effective in the second quarter of fiscal year 2018. As of June 30, 2018, we have not completed our accounting for the estimated tax effects of the TCJA. During fiscal year 2018, we recorded a provisional net charge of $13.7 billion related to the TCJA based on reasonable estimates for those tax effects. Due to the timing of the enactment and the complexity in applying the provisions of the TCJA, the provisional net charge is subject to revisions as we continue to complete our analysis of the TCJA, collect and prepare necessary data, and interpret any additional guidance issued by the U.S. Treasury Department, Internal Revenue Service (“IRS”), FASB, and other standard-setting and regulatory bodies. Adjustments may materially impact our provision for income taxes and effective tax rate in the period in which the adjustments are made. Our accounting for the estimated tax effects of the TCJA will be completed during the measurement period, which is not expected to extend beyond one year from the enactment date. The impacts of our estimates are described further below.

During fiscal year 2018, we recorded an estimated net charge of $13.7 billion related to the TCJA, due to the impact of the one-time transition tax on the deemed repatriation of deferred foreign income of $17.9 billion, offset in part by the impact of changes in the tax rate of $4.2 billion, primarily on deferred tax assets and liabilities.

We recorded an estimated $17.9 billion charge in fiscal year 2018 related to the transition tax, which was included in the provision for income taxes in our consolidated income statements and income taxes in our consolidated balance sheets. We have not yet completed our accounting for the transition tax as our analysis of deferred foreign income is not complete. To calculate the transition tax, we estimated our deferred foreign income for fiscal year 2018 because these tax returns are not complete or due. Fiscal year 2018 taxable income will be known once the respective tax returns are completed and filed. In addition, U.S. and foreign audit settlements may significantly impact the estimated transition tax. The impact of the U.S. and foreign audits on the transition tax will be known as the audits are concluded.

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In addition, we recorded an estimated $4.2 billion benefit in fiscal year 2018 from the impact of changes in the tax rate, primarily on deferred tax assets and liabilities, which was included in provision for income taxes in our consolidated income statements and deferred income taxes and long-term income taxes in our consolidated balance sheets. We remeasured our deferred taxes to reflect the reduced rate that will apply when these deferred taxes are settled or realized in future periods.

The TCJA subjects a U.S. corporation to tax on its GILTI. Due to the complexity of the new GILTI tax rules, we are continuing to evaluate this provision of the TCJA and the application of GAAP. Under GAAP, we can make an accounting policy election to either treat taxes due on the GILTI inclusion as a current period expense or factor such amounts into our measurement of deferred taxes. We elected the deferred method, and the corresponding deferred tax assets and liabilities are included in the table of deferred income tax assets and liabilities below.

On August 1, 2018, the Internal Revenue Service published on its website proposed regulations relating to the transition tax imposed by the TCJA. Once published in the Federal Register, the proposed regulations are subject to a 60-day comment period. Final regulations are expected to be issued after consideration of comments. We are currently evaluating the impact of the proposed regulations.

Provision for Income Taxes

The components of the provision for income taxes were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2018

 

 

2017

 

 

2016

 

 

 

 

 

Current Taxes

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. federal

 

$

19,764

 

 

$

2,739

 

 

$

545

 

U.S. state and local

 

 

934

 

 

 

30

 

 

 

136

 

Foreign

 

 

4,348

 

 

 

2,472

 

 

 

1,940

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Current taxes

 

$

25,046

 

 

$

5,241

 

 

$

2,621

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deferred Taxes

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. federal

 

$

(4,292

)

 

$

(554

)

 

$

1,919

 

U.S. state and local

 

 

(458

)

 

 

269

 

 

 

111

 

Foreign

 

 

(393

)

 

 

(544

)

 

 

449

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deferred taxes

 

$

(5,143

)

 

$

(829

)

 

$

2,479

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Provision for income taxes

 

$

19,903

 

 

$

4,412

 

 

$

5,100

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

U.S. and foreign components of income before income taxes were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2018

 

 

2017

 

 

2016

 

 

 

 

 

U.S.

 

$

11,527

 

 

$

6,843

 

 

$

5,125

 

Foreign

 

 

24,947

 

 

 

23,058

 

 

 

20,514

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Income before income taxes

 

$

36,474

 

 

$

29,901

 

 

$

25,639

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

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PART II

Item 8

 

Effective Tax Rate

The items accounting for the difference between income taxes computed at the U.S. federal statutory rate and our effective rate were as follows:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2018

 

 

2017

 

 

2016

 

 

 

 

 

Federal statutory rate

 

 

28.1%

 

 

 

35.0%

 

 

 

35.0%

 

Effect of:

 

 

 

 

 

 

 

 

 

 

 

 

Foreign earnings taxed at lower rates

 

 

(7.8)%

 

 

 

(11.6)%

 

 

 

(14.5)%

 

Impacts of TCJA

 

 

37.7%

 

 

 

0%

 

 

 

0%

 

Phone business losses

 

 

0%

 

 

 

(5.7)%

 

 

 

1.0%

 

Excess tax benefits relating to stock-based compensation

 

 

(2.5)%

 

 

 

(2.1)%

 

 

 

(1.6)%

 

Interest, net

 

 

1.2%

 

 

 

1.4%

 

 

 

0.9%

 

Other reconciling items, net

 

 

(2.1)%

 

 

 

(2.2)%

 

 

 

(0.9)%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Effective rate

 

 

54.6%

 

 

 

14.8%

 

 

 

19.9%

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

The increase from the federal statutory rate in fiscal year 2018 is primarily due to the net charge related to the enactment of the TCJA in the second quarter of fiscal year 2018, offset in part by earnings taxed at lower rates in foreign jurisdictions. The decrease from the federal statutory rate in fiscal year 2017 and 2016 is primarily due to earnings taxed at lower rates in foreign jurisdictions. Our foreign regional operating centers in Ireland, Singapore and Puerto Rico, which are taxed at rates lower than the U.S. rate, generated 87%, 76%, and 91% of our foreign income before tax in fiscal years 2018, 2017, and 2016, respectively. Other reconciling items, net consists primarily of tax credits, U.S. state income taxes, and domestic production activities deduction. In fiscal years 2018, 2017, and 2016, there were no individually significant other reconciling items.

The increase in our effective tax rate for fiscal year 2018 compared to fiscal year 2017 was primarily due to the net charge related to the enactment of the TCJA and the realization of tax benefits attributable to previous Phone business losses in fiscal year 2017. The decrease in our effective tax rate for fiscal year 2017 compared to fiscal year 2016 was primarily due to the realization of tax benefits attributable to previous Phone business losses, offset in part by changes in the mix of our income before income taxes between the U.S. and foreign countries.

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Item 8

 

The components of the deferred income tax assets and liabilities were as follows:  

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

June 30,

 

2018

 

 

2017

 

 

 

 

Deferred Income Tax Assets

 

 

 

 

 

 

 

 

 

 

 

Stock-based compensation expense

 

$

460

 

 

$

777

 

Accruals, reserves, and other expenses

 

 

1,832

 

 

 

1,859

 

Loss and credit carryforwards

 

 

3,369

 

 

 

4,809

 

Depreciation and amortization

 

 

351

 

 

 

53

 

Other

 

 

56

 

 

 

255

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deferred income tax assets

 

 

6,068

 

 

 

7,753

 

Less valuation allowance

 

 

 (3,186

)

 

 

 (3,310

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deferred income tax assets, net of valuation allowance

 

$

2,882

 

 

$

4,443

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deferred Income Tax Liabilities

 

 

 

 

 

 

 

 

 

 

 

Foreign earnings

 

$

0

 

 

$

(1,134

)

Unrealized gain on investments and debt

 

 

0

 

 

 

(1,384

)

Unearned revenue

 

 

(639

)

 

 

(5,760

)

Depreciation and amortization

 

 

(1,103

)

 

 

(1,630

)

Other

 

 

(312

)

 

 

(21

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Deferred income tax liabilities

 

$

(2,054

)

 

$

(9,929

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net deferred income tax assets (liabilities)

 

$

828

 

 

$

(5,486

)

 

 

 

 

 

 

 

 

 

 

 

 

Reported As

 

 

 

 

 

 

 

 

 

 

 

Other long-term assets

 

$

1,369

 

 

$

248

 

Long-term deferred income tax liabilities

 

 

(541

)

 

 

(5,734

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net deferred income tax assets (liabilities)

 

$

828

 

 

$

(5,486

)

 

 

 

 

 

 

 

 

 

 

We recorded a deferred tax liability of $7.4 billion related to the recognition of revenue as part of the adoption of the new revenue standard.

As of June 30, 2018, we had federal, state and foreign net operating loss carryforwards of $257 million, $1.4 billion and $11.4 billion, respectively. The federal and state net operating loss carryforwards will expire in various years from fiscal 2019 through 2038, if not utilized. The majority of our foreign net operating loss carryforwards do not expire. Certain acquired net operating loss carryforwards are subject to an annual limitation, but are expected to be realized with the exception of those which have a valuation allowance.

The valuation allowance disclosed in the table above relates to the foreign net operating loss carryforwards and other net deferred tax assets that may not be realized.

Deferred income tax balances reflect the effects of temporary differences between the carrying amounts of assets and liabilities and their tax bases and are stated at enacted tax rates expected to be in effect when the taxes are paid or recovered.

Income taxes paid, net of refunds, were $5.5 billion, $2.4 billion, and $3.9 billion in fiscal years 2018, 2017, and 2016, respectively.

Uncertain Tax Positions

Unrecognized tax benefits as of June 30, 2018, 2017, and 2016, were $12.0 billion, $11.7 billion, and $10.2 billion, respectively, and were included in long-term income taxes in our consolidated balance sheets. If recognized, these tax benefits would affect our effective tax rates for fiscal years 2018, 2017, and 2016, by $11.3 billion, $10.2 billion, and $8.8 billion, respectively.

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PART II

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As of June 30, 2018, 2017, and 2016, we had accrued interest expense related to uncertain tax positions of $3.0 billion, $2.3 billion, and $1.9 billion, respectively, net of income tax benefits. Interest expense on unrecognized tax benefits, net of tax effects, was $688 million, $399 million, and $163 million in fiscal years 2018, 2017, and 2016, respectively, and was included in provision for income taxes.

The aggregate changes in the balance of unrecognized tax benefits were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2018

 

 

2017

 

 

2016

 

 

 

 

 

Balance, beginning of year

 

$

11,737

 

 

$

10,164

 

 

$

9,599

 

Decreases related to settlements

 

 

(193

)

 

 

(4

)

 

 

(201

)

Increases for tax positions related to the current year

 

 

1,445

 

 

 

1,277

 

 

 

1,086

 

Increases for tax positions related to prior years

 

 

151

 

 

 

397

 

 

 

115

 

Decreases for tax positions related to prior years

 

 

(1,176

)

 

 

(49

)

 

 

(317

)

Decreases due to lapsed statutes of limitations

 

 

(3

)

 

 

(48

)

 

 

(118

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of year

 

$

11,961

 

 

$

11,737

 

 

$

10,164

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

While we settled a portion of the IRS audit for tax years 2004 to 2006 during the third quarter of fiscal year 2011, and a portion of the IRS audit for tax years 2007 to 2009 during the first quarter of fiscal year 2016, we remain under audit for those years. In the second quarter of fiscal year 2018, we settled a portion of the IRS audit for tax years 2010 to 2013. We continue to be subject to examination by the IRS for tax years 2010 to 2017. In February 2012, the IRS withdrew its 2011 Revenue Agents Report for tax years 2004 to 2006 and reopened the audit phase of the examination. As of June 30, 2018, the primary unresolved issue relates to transfer pricing, which could have a significant impact in our consolidated financial statements if not resolved favorably. We believe our allowances for income tax contingencies are adequate. We have not received a proposed assessment for the unresolved issues and do not expect a final resolution of these issues in the next 12 months. Based on the information currently available, we do not anticipate a significant increase or decrease to our tax contingencies for these issues within the next 12 months.

We are subject to income tax in many jurisdictions outside the U.S. Our operations in certain jurisdictions remain subject to examination for tax years 1996 to 2017, some of which are currently under audit by local tax authorities. The resolution of each of these audits is not expected to be material to our consolidated financial statements.

NOTE 14 RESTRUCTURING CHARGES

2016 Restructuring

In the fourth quarter of fiscal year 2016, management approved restructuring plans that resulted in approximately 4,700 job eliminations in fiscal year 2017, primarily across our smartphone hardware business and global sales. In fiscal year 2016, we incurred restructuring charges of $501 million in connection with the 2016 restructuring plans, including severance expenses and other reorganization costs. The actions associated with these restructuring plans were completed as of June 30, 2017.

2017 Restructuring

In June 2017, management approved a sales and marketing restructuring plan. In fiscal year 2017, we recorded employee severance expenses of $306 million primarily related to this sales and marketing restructuring plan. The actions associated with this restructuring plan were completed as of June 30, 2018.

 

 

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PART II

Item 8

 

NOTE 15 — UNEARNED REVENUE

Unearned revenue by segment was as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

June 30,

 

2018

 

 

2017

 

 

 

 

Productivity and Business Processes

 

$

14,864

 

 

$

12,692

 

Intelligent Cloud

 

 

14,706

 

 

 

11,152

 

More Personal Computing

 

 

3,150

 

 

 

2,812

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

32,720

 

 

$

26,656

 

 

 

 

 

 

 

 

 

 

 

The opening balance of unearned revenue was $22.2 billion as of July 1, 2016.

Changes in unearned revenue were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30, 2018

 

 

 

 

 

 

Balance, beginning of period

 

$

26,656

 

Deferral of revenue

 

 

61,142

 

Recognition of unearned revenue

 

 

(55,078

)

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

$

32,720

 

 

 

 

 

 

 

Revenue allocated to remaining performance obligations represents contracted revenue that has not yet been recognized (“contracted not recognized revenue”), which includes unearned revenue and amounts that will be invoiced and recognized as revenue in future periods. Contracted not recognized revenue was $73 billion as of June 30, 2018, of which we expect to recognize approximately 60% of the revenue over the next 12 months and the remainder thereafter.

NOTE 16 LEASES

We have operating and finance leases for datacenters, corporate offices, research and development facilities, retail stores, and certain equipment. Our leases have remaining lease terms of 1 year to 20 years, some of which include options to extend the leases for up to 5 years, and some of which include options to terminate the leases within 1 year.

The components of lease expense were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2018

 

 

 

2017

 

 

 

2016

 

 

 

 

 

 

 

 

 

 

 

Operating lease cost

 

$

1,585

 

 

$

1,412

 

 

$

936

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Finance lease cost:

 

 

 

 

 

 

 

 

 

 

 

 

Amortization of right-of-use assets

 

$

243

 

 

$

104

 

 

$

28

 

Interest on lease liabilities

 

 

175

 

 

 

68

 

 

 

28

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total finance lease cost

 

$

418

 

 

$

172

 

 

$

56

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

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PART II

Item 8

 

Supplemental cash flow information related to leases was as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2018

 

 

 

2017

 

 

 

2016

 

 

 

 

 

 

 

 

 

 

 

Cash paid for amounts included in the measurement of lease liabilities:

 

 

 

 

 

 

 

 

 

 

 

 

Operating cash flows from operating leases

 

$

1,522

 

 

$

1,157

 

 

$

936

 

Operating cash flows from finance leases

 

 

175

 

 

 

68

 

 

 

28

 

Financing cash flows from finance leases

 

 

144

 

 

 

46

 

 

 

6

 

 

 

 

 

 

 

 

 

 

 

Right-of-use assets obtained in exchange for lease obligations:

 

 

 

 

 

 

 

 

 

 

 

 

Operating leases

 

 

1,571

 

 

 

1,270

 

 

 

1,062

 

Finance leases

 

 

1,933

 

 

 

1,773

 

 

 

413

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Supplemental balance sheet information related to leases was as follows:

 

(In millions, except lease term and discount rate)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 June 30,

 

2018

 

 

2017

 

 

 

 

Operating Leases

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating lease right-of-use assets

 

$

6,686

 

 

$

6,555

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other current liabilities

 

$

1,399

 

 

$

1,423

 

Operating lease liabilities

 

 

5,568

 

 

 

5,372

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total operating lease liabilities

 

$

6,967

 

 

$

6,795

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Finance Leases

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Property and equipment, gross

 

$

4,543

 

 

$

2,658

 

Accumulated depreciation

 

 

(404

)

 

 

(161

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Property and equipment, net

 

$

4,139

 

 

$

2,497

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Other current liabilities

 

$

176

 

 

$

113

 

Other long-term liabilities

 

 

4,125

 

 

 

2,425

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total finance lease liabilities

 

$

4,301

 

 

$

2,538

 

 

 

 

 

 

 

 

 

 

Weighted Average Remaining Lease Term

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating leases

 

 

7 years

 

 

 

7 years

 

Finance leases

 

 

13 years

 

 

 

13 years

 

 

 

 

 

 

 

 

 

 

Weighted Average Discount Rate

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating leases

 

 

2.7%

 

 

 

2.5%

 

Finance leases

 

 

5.2%

 

 

 

4.7%

 

 

 

 

 

 

 

 

 

 

 

Maturities of lease liabilities were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ending June 30,

 

Operating Leases

 

 

Finance Leases

 

 

 

 

2019

 

$

1,492

 

 

$

386

 

2020

 

 

1,347

 

 

 

393

 

2021

 

 

1,086

 

 

 

401

 

2022

 

 

902

 

 

 

408

 

2023

 

 

721

 

 

 

410

 

Thereafter

 

 

2,157

 

 

 

4,036

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total lease payments

 

 

7,705

 

 

 

6,034

 

Less imputed interest

 

 

(738

)

 

 

(1,733

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

6,967

 

 

$

4,301

 

 

 

 

 

 

 

 

 

 

 

87


PART II

Item 8

 

As of June 30, 2018, we have additional operating and finance leases, primarily for datacenters, that have not yet commenced of $594 million and $2.4 billion, respectively. These operating and finance leases will commence between fiscal year 2019 and fiscal year 2020 with lease terms of 1 year to 20 years.

NOTE 17 — CONTINGENCIES

Patent and Intellectual Property Claims

There were 34 patent infringement cases pending against Microsoft as of June 30, 2018, none of which are material individually or in aggregate.

Antitrust, Unfair Competition, and Overcharge Class Actions

Antitrust and unfair competition class action lawsuits were filed against us in British Columbia, Ontario, and Quebec, Canada. All three have been certified on behalf of Canadian indirect purchasers who acquired licenses for Microsoft operating system software and/or productivity application software between 1998 and 2010.

The trial of the British Columbia action commenced in May 2016. Following a mediation, the parties agreed to a global settlement of all three Canadian actions, and have submitted the proposed settlement agreement to the courts in all three jurisdictions for approval. The courts will likely reach a decision on approval in September 2018.

Other Antitrust Litigation and Claims

China State Administration for Industry and Commerce Investigation

In 2014, Microsoft was informed that China’s State Agency for Market Regulation (“SAMR”) (formerly State Administration for Industry and Commerce) had begun a formal investigation relating to China’s Anti-Monopoly Law, and the SAMR conducted onsite inspections of Microsoft offices in Beijing, Shanghai, Guangzhou, and Chengdu. SAMR has stated the investigation relates to compatibility, bundle sales, file verification issues related to Windows and Office software, and potentially other issues.

Product-Related Litigation

U.S. Cell Phone Litigation

Microsoft Mobile Oy, a subsidiary of Microsoft, along with other handset manufacturers and network operators, is a defendant in 35 lawsuits filed in the Superior Court for the District of Columbia by individual plaintiffs who allege that radio emissions from cellular handsets caused their brain tumors and other adverse health effects. We assumed responsibility for these claims in our agreement to acquire Nokia’s Devices and Services business and have been substituted for the Nokia defendants. Nine of these cases were filed in 2002 and are consolidated for certain pre-trial proceedings; the remaining cases are stayed. In a separate 2009 decision, the Court of Appeals for the District of Columbia held that adverse health effect claims arising from the use of cellular handsets that operate within the U.S. Federal Communications Commission radio frequency emission guidelines (“FCC Guidelines”) are pre-empted by federal law. The plaintiffs allege that their handsets either operated outside the FCC Guidelines or were manufactured before the FCC Guidelines went into effect. The lawsuits also allege an industry-wide conspiracy to manipulate the science and testing around emission guidelines.

In 2013, the defendants in the consolidated cases moved to exclude the plaintiffs’ expert evidence of general causation on the basis of flawed scientific methodologies. In 2014, the trial court granted in part and denied in part the defendants’ motion to exclude the plaintiffs’ general causation experts. The defendants filed an interlocutory appeal challenging the standard for evaluating expert scientific evidence, which the District of Columbia Court of Appeals heard en banc. In October 2016, the Court of Appeals issued its decision adopting the standard advocated by the defendants and remanding the cases to the trial court for further proceedings under that standard. The plaintiffs have filed supplemental expert evidence, portions of which the defendants have moved to strike.

88


PART II

Item 8

 

Canadian Cell Phone Class Action

Microsoft Mobile Oy, along with other handset manufacturers and network operators, is a defendant in a 2013 class action lawsuit filed in the Supreme Court of British Columbia by a purported class of Canadians who have used cellular phones for at least 1,600 hours, including a subclass of users with brain tumors, alleging adverse health effects from cellular phone use. Microsoft was served with the complaint in June 2014 and has been substituted for the Nokia defendants. The litigation has been dormant for more than three years.

Employment-Related Litigation

Moussouris v. Microsoft

Current and former female Microsoft employees in certain engineering and information technology roles brought this class action in federal court in Seattle in 2015, alleging systemic gender discrimination in pay and promotions. The plaintiffs moved to certify the class in October 2017. Microsoft filed an opposition in January 2018, attaching an expert report showing no statistically significant disparity in pay and promotions between similarly situated men and women. In June 2018, the court denied the plaintiffs’ motion for class certification. The plaintiffs have appealed to the U.S. Court of Appeals for the Ninth Circuit. In July, the court denied Microsoft’s motion for summary judgment with respect to the named plaintiffs.

Other Contingencies

We also are subject to a variety of other claims and suits that arise from time to time in the ordinary course of our business. Although management currently believes that resolving claims against us, individually or in aggregate, will not have a material adverse impact in our consolidated financial statements, these matters are subject to inherent uncertainties and management’s view of these matters may change in the future.

As of June 30, 2018, we accrued aggregate legal liabilities of $323 million. While we intend to defend these matters vigorously, adverse outcomes that we estimate could reach approximately $1.1 billion in aggregate beyond recorded amounts are reasonably possible. Were unfavorable final outcomes to occur, there exists the possibility of a material adverse impact in our consolidated financial statements for the period in which the effects become reasonably estimable.

Indemnifications

We provide indemnifications of varying scope and size to certain customers against claims of intellectual property infringement made by third parties arising from the use of our products and certain other matters. Additionally, we have agreed to cover damages resulting from breaches of certain security and privacy commitments in our cloud business. In evaluating estimated losses on these obligations, we consider factors such as the degree of probability of an unfavorable outcome and our ability to make a reasonable estimate of the amount of loss. These obligations did not have a material impact in our consolidated financial statements during the periods presented.

NOTE 18 STOCKHOLDERS’ EQUITY

Shares Outstanding

Shares of common stock outstanding were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2018

 

 

2017

 

 

2016

 

 

 

 

 

Balance, beginning of year

 

 

7,708

 

 

 

7,808

 

 

 

8,027

 

Issued

 

 

68

 

 

 

70

 

 

 

75

 

Repurchased

 

 

(99

)

 

 

(170

)

 

 

(294

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of year

 

 

7,677

 

 

 

7,708

 

 

 

7,808

 

 

 

 

 

 

 

 

 

 

 

 

 

 

89


PART II

Item 8

 

Share Repurchases

On September 16, 2013, our Board of Directors approved a share repurchase program authorizing up to $40.0 billion in share repurchases. This share repurchase program became effective on October 1, 2013, and was completed on December 22, 2016.

On September 20, 2016, our Board of Directors approved a share repurchase program authorizing up to an additional $40.0 billion in share repurchases. This share repurchase program commenced on December 22, 2016 following completion of the prior program approved on September 16, 2013, has no expiration date, and may be suspended or discontinued at any time without notice. As of June 30, 2018, $28.2 billion remained of this $40.0 billion share repurchase program.

We repurchased the following shares of common stock under the share repurchase programs:

 

(In millions)

 

Shares

 

 

Amount

 

 

Shares

 

 

Amount

 

 

Shares

 

 

Amount

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2018

 

 

2017

 

 

2016

 

 

 

 

 

 

 

 

First Quarter

 

 

22

 

 

$

1,600

 

 

 

63

 

 

$

3,550

 

 

 

89

 

 

$

4,000

 

Second Quarter

 

 

22

 

 

 

1,800

 

 

 

59

 

 

 

3,533

 

 

 

66

 

 

 

3,600

 

Third Quarter

 

 

34

 

 

 

3,100

 

 

 

25

 

 

 

1,600

 

 

 

69

 

 

 

3,600

 

Fourth Quarter

 

 

21

 

 

 

2,100

 

 

 

23

 

 

 

1,600

 

 

 

70

 

 

 

3,600

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

 

99

 

 

$

8,600

 

 

 

170

 

 

$

10,283

 

 

 

294

 

 

$

14,800

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Shares repurchased beginning in the third quarter of fiscal year 2017 were under the share repurchase program approved September 20, 2016. All other shares repurchased were under the share repurchase program approved September 16, 2013. The above table excludes shares repurchased to settle employee tax withholding related to the vesting of stock awards. All repurchases were made using cash resources.

Dividends

Our Board of Directors declared the following dividends:

 

Declaration Date

Dividend

Per Share

 

 

Record Date

 

Amount

 

 

Payment Date

 

 

 

 

 

Fiscal Year 2018

 

 

 

 

 

(in millions)

 

 

 

 

 

 

 

 

 

September 19, 2017

 

$

0.42

 

 

 

November 16, 2017

 

 

$

3,238

 

 

 

December 14, 2017

 

November 29, 2017

 

 

0.42

 

 

 

February 15, 2018

 

 

 

3,232

 

 

 

March 8, 2018

 

March 12, 2018

 

 

0.42

 

 

 

May 17, 2018

 

 

 

3,226

 

 

 

June 14, 2018

 

June 13, 2018

 

 

0.42

 

 

 

August 16, 2018

 

 

 

3,224

 

 

 

September 13, 2018

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fiscal Year 2017

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

September 20, 2016

 

$

0.39

 

 

 

November 17, 2016

 

 

$

3,024

 

 

 

December 8, 2016

 

November 30, 2016

 

 

0.39

 

 

 

February 16, 2017

 

 

 

3,012

 

 

 

March 9, 2017

 

March 14, 2017

 

 

0.39

 

 

 

May 18, 2017

 

 

 

3,009

 

 

 

June 8, 2017

 

June 13, 2017

 

 

0.39

 

 

 

August 17, 2017

 

 

 

3,003

 

 

 

September 14, 2017

 

 

 

The dividend declared on June 13, 2018 was included in other current liabilities as of June 30, 2018.

 

90


PART II

Item 8

 

NOTE 19 — ACCUMULATED OTHER COMPREHENSIVE INCOME (LOSS)

The following table summarizes the changes in accumulated other comprehensive income (loss) by component:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2018

 

 

2017

 

 

2016

 

 

 

 

 

Derivatives

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

$

134

 

 

$

352

 

 

$

590

 

Unrealized gains, net of tax of $11, $4, and $24

 

 

218

 

 

 

328

 

 

 

351

 

Reclassification adjustments for gains included in revenue

 

 

(185

)

 

 

(555

)

 

 

(625

)

Tax expense included in provision for income taxes

 

 

6

 

 

 

9

 

 

 

36

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Amounts reclassified from accumulated other comprehensive income

 

 

(179

)

 

 

(546

)

 

 

(589

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net change related to derivatives, net of tax of $5, $(5), and $(12)

 

 

39

 

 

 

(218

)

 

 

(238

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

$

173

 

 

$

134

 

 

$

352

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Investments

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

$

1,825

 

 

$

2,941

 

 

$

3,169

 

Unrealized gains (losses), net of tax of $(427), $267, and $120

 

 

(1,146

)

 

 

517

 

 

 

219

 

Reclassification adjustments for gains included in other income (expense), net

 

 

(2,309

)

 

 

(2,513

)

 

 

(688

)

Tax expense included in provision for income taxes

 

 

738

 

 

 

880

 

 

 

241

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Amounts reclassified from accumulated other comprehensive income

 

 

(1,571

)

 

 

(1,633

)

 

 

(447

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net change related to investments, net of tax of $(1,165), $(613), and $(121)

 

 

(2,717

)

 

 

(1,116

)

 

 

(228

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

$

(892

)

 

$

1,825

 

 

$

2,941

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Translation Adjustments and Other

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, beginning of period

 

$

 (1,332

)

 

$

 (1,499

)

 

$

 (1,237

)

Translation adjustments and other, net of tax effects of $0, $9, and $(33)

 

 

(178

)

 

 

167

 

 

 

(262

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balance, end of period

 

$

(1,510

)

 

$

(1,332

)

 

$

(1,499

)

 

 

 

 

 

 

 

 

 

 

 

 

 

Cumulative effect of accounting change

 

 

42

 

 

 

0

 

 

 

0

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Accumulated other comprehensive income (loss), end of period

 

$

(2,187

)

 

$

627

 

 

$

1,794

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

NOTE 20 — EMPLOYEE STOCK AND SAVINGS PLANS

We grant stock-based compensation to employees and directors. As of June 30, 2018, an aggregate of 381 million shares were authorized for future grant under our stock plans. In fiscal year 2018, our Board of Directors approved the 2017 Stock Plan, which authorized an additional 308 million shares for future grant under our stock plans. Awards that expire or are canceled without delivery of shares generally become available for issuance under the plans. We issue new shares of Microsoft common stock to satisfy vesting of awards granted under our stock plans. We also have an ESPP for all eligible employees.

Stock-based compensation expense and related income tax benefits were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2018

 

 

2017

 

 

2016

 

 

 

 

 

Stock-based compensation expense

 

$

3,940

 

 

$

3,266

 

 

$

2,668

 

Income tax benefits related to stock-based compensation

 

 

823

 

 

 

1,066

 

 

 

882

 

 

 

91


PART II

Item 8

 

Stock Plans

Stock awards entitle the holder to receive shares of Microsoft common stock as the award vests. Stock awards generally vest over a four or five-year service period.

Executive Incentive Plan

Under the Executive Incentive Plan, the Compensation Committee approves stock awards to executive officers and certain senior executives. RSUs generally vest ratably over a four-year service period. PSUs generally vest over a three-year performance period. The number of shares the PSU holder receives is based on the extent to which the corresponding performance goals have been achieved.

Activity for All Stock Plans

The fair value of stock awards was estimated on the date of grant using the following assumptions:

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2018

 

 

2017

 

 

2016

 

 

 

 

 

Dividends per share (quarterly amounts)

 

 

 $0.39 - $0.42

 

 

 

 $0.36 - $0.39

 

 

 

 $0.31 - $0.36

 

Interest rates

 

 

1.7% - 2.9%

 

 

 

1.2% - 2.2%

 

 

 

1.1% - 1.8%

 

 

 

During fiscal year 2018, the following activity occurred under our stock plans:

 

Shares

 

 

Weighted

Average

Grant-Date

Fair Value

 

 

 

 

 

(In millions)

 

 

 

 

 

Stock Awards

 

 

 

 

Nonvested balance, beginning of year

 

 

201

 

 

 $

46.32

 

Granted (a)

 

 

70

 

 

 

75.88

 

Vested

 

 

(80

)

 

 

45.74

 

Forfeited

 

 

(17

)

 

 

53.41

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Nonvested balance, end of year

 

 

174

 

 

 

57.85

 

 

 

 

 

 

 

 

 

 

 

(a)

Includes 3 million, 2 million, and 1 million of PSUs granted at target and performance adjustments above target levels for fiscal years 2018, 2017, and 2016, respectively.

As of June 30, 2018, there was approximately $7.0 billion of total unrecognized compensation costs related to stock awards. These costs are expected to be recognized over a weighted average period of 3 years. The weighted average grant-date fair value of stock awards granted was $75.88, $55.64, and $41.51 for fiscal years 2018, 2017, and 2016, respectively. The fair value of stock awards vested was $6.6 billion, $4.8 billion, and $3.9 billion, for fiscal years 2018, 2017, and 2016, respectively.

Employee Stock Purchase Plan

We have an ESPP for all eligible employees. Shares of our common stock may be purchased by employees at three-month intervals at 90% of the fair market value on the last trading day of each three-month period. Employees may purchase shares having a value not exceeding 15% of their gross compensation during an offering period. Employees purchased the following shares during the periods presented:

 

(Shares in millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2018

 

 

2017

 

 

2016

 

 

 

 

 

Shares purchased

 

 

13

 

 

 

13

 

 

 

15

 

Average price per share

 

$

76.40

 

 

$

56.36

 

 

$

44.83

 

 

 

 

As of June 30, 2018, 116 million shares of our common stock were reserved for future issuance through the ESPP.

92


PART II

Item 8

 

Savings Plan

We have a savings plan in the U.S. that qualifies under Section 401(k) of the Internal Revenue Code, and a number of savings plans in international locations. Participating U.S. employees may contribute a portion of their salary, subject to certain limitations. We contribute fifty cents for each dollar a participant contributes in this plan, with a maximum employer contribution of 50% of the IRS contribution limit for the calendar year. Matching contributions for all plans were $807 million, $734 million, and $549 million in fiscal years 2018, 2017, and 2016, respectively, and were expensed as contributed.

NOTE 21 — SEGMENT INFORMATION AND GEOGRAPHIC DATA

In its operation of the business, management, including our chief operating decision maker, who is also our Chief Executive Officer, reviews certain financial information, including segmented internal profit and loss statements prepared on a basis not consistent with GAAP. During the periods presented, we reported our financial performance based on the following segments: Productivity and Business Processes, Intelligent Cloud, and More Personal Computing.

Our reportable segments are described below.

Productivity and Business Processes

Our Productivity and Business Processes segment consists of products and services in our portfolio of productivity, communication, and information services, spanning a variety of devices and platforms. This segment primarily comprises:

 

Office Commercial, including Office 365 subscriptions and Office licensed on-premises, comprising Office, Exchange, SharePoint, Skype for Business, and Microsoft Teams, and related Client Access Licenses (“CALs”).

 

Office Consumer, including Office 365 subscriptions and Office licensed on-premises, and Office Consumer Services, including Skype, Outlook.com, and OneDrive.

 

LinkedIn, including Talent Solutions, Marketing Solutions, and Premium Subscriptions.

 

Dynamics business solutions, including Dynamics ERP on-premises, Dynamics CRM on-premises, and Dynamics 365, a set of cloud-based applications across ERP and CRM.

Intelligent Cloud

Our Intelligent Cloud segment consists of our public, private, and hybrid server products and cloud services that can power modern business. This segment primarily comprises:

 

Server products and cloud services, including Microsoft SQL Server, Windows Server, Visual Studio, System Center, and related CALs, and Azure.

 

Enterprise Services, including Premier Support Services and Microsoft Consulting Services.

More Personal Computing

Our More Personal Computing segment consists of products and services geared towards harmonizing the interests of end users, developers, and IT professionals across all devices. This segment primarily comprises:

 

Windows, including Windows OEM licensing and other non-volume licensing of the Windows operating system; Windows Commercial, comprising volume licensing of the Windows operating system, Windows cloud services, and other Windows commercial offerings; patent licensing; Windows Internet of Things (“IoT”); and MSN advertising.

 

Devices, including Microsoft Surface, PC accessories, and other intelligent devices.

 

Gaming, including Xbox hardware and Xbox software and services, comprising Xbox Live transactions, subscriptions, and advertising (“Xbox Live”), video games, and third-party video game royalties.

 

Search.

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PART II

Item 8

 

Revenue and costs are generally directly attributed to our segments. However, due to the integrated structure of our business, certain revenue recognized and costs incurred by one segment may benefit other segments. Revenue from certain contracts is allocated among the segments based on the relative value of the underlying products and services, which can include allocation based on actual prices charged, prices when sold separately, or estimated costs plus a profit margin. Cost of revenue is allocated in certain cases based on a relative revenue methodology. Operating expenses that are allocated primarily include those relating to marketing of products and services from which multiple segments benefit and are generally allocated based on relative gross margin.

In addition, certain costs incurred at a corporate level that are identifiable and that benefit our segments are allocated to them. These allocated costs include costs of: legal, including settlements and fines; information technology; human resources; finance; excise taxes; field selling; shared facilities services; and customer service and support. Each allocation is measured differently based on the specific facts and circumstances of the costs being allocated. Certain corporate-level activity is not allocated to our segments, including impairment and restructuring expenses.

Segment revenue and operating income were as follows during the periods presented:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

 

2018

 

 

 

2017

 

 

 

2016

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Revenue

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Productivity and Business Processes

 

$

35,865

 

 

$

29,870

 

 

$

25,792

 

Intelligent Cloud

 

 

32,219

 

 

 

27,407

 

 

 

24,952

 

More Personal Computing

 

 

42,276

 

 

 

39,294

 

 

 

40,410

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

110,360

 

 

$

96,571

 

 

$

91,154

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating Income (Loss)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Productivity and Business Processes

 

$

12,924

 

 

$

11,389

 

 

$

11,756

 

Intelligent Cloud

 

 

11,524

 

 

 

9,127

 

 

 

9,249

 

More Personal Computing

 

 

10,610

 

 

 

8,815

 

 

 

6,183

 

Corporate and Other

 

 

0

 

 

 

(306

)

 

 

(1,110

)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

35,058

 

 

$

29,025

 

 

$

26,078

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Corporate and Other operating loss comprised impairment and restructuring expenses.

 

 

No sales to an individual customer or country other than the United States accounted for more than 10% of revenue for the fiscal years 2018, 2017, or 2016. Revenue, classified by the major geographic areas in which our customers are located, was as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2018

 

 

2017

 

 

2016

 

 

 

 

 

United States (a)

 

$

55,926

 

 

$

51,078

 

 

$

46,416

 

Other countries

 

 

54,434

 

 

 

45,493

 

 

 

44,738

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

110,360

 

 

$

96,571

 

 

$

91,154

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(a)

Includes billings to OEMs and certain multinational organizations because of the nature of these businesses and the impracticability of determining the geographic source of the revenue.

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PART II

Item 8

 

Revenue from external customers, classified by significant product and service offerings, was as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

Year Ended June 30,

 

2018

 

 

2017

 

 

2016

 

 

 

 

 

Office products and cloud services

 

$

28,316

 

 

$

25,573

 

 

$

23,868

 

Server products and cloud services

 

 

26,129

 

 

 

21,649

 

 

 

19,062

 

Windows

 

 

19,518

 

 

 

18,593

 

 

 

17,548

 

Gaming

 

 

10,353

 

 

 

9,051

 

 

 

9,202

 

Search advertising

 

 

7,012

 

 

 

6,219

 

 

 

5,428

 

Enterprise Services

 

 

5,846

 

 

 

5,542

 

 

 

5,659

 

Devices

 

 

5,134

 

 

 

5,062

 

 

 

7,888

 

LinkedIn

 

 

5,259

 

 

 

2,271

 

 

 

0

 

Other

 

 

2,793

 

 

 

2,611

 

 

 

2,499

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

110,360

 

 

$

96,571

 

 

$

91,154

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Our commercial cloud revenue, which primarily comprises Office 365 commercial, Azure, Dynamics 365, and other cloud properties, was $23.2 billion, $14.9 billion, and $9.5 billion in fiscal years 2018, 2017, and 2016, respectively. These amounts are primarily included in Office products and services and server products and cloud services in the table above.

Assets are not allocated to segments for internal reporting presentations. A portion of amortization and depreciation is included with various other costs in an overhead allocation to each segment; it is impracticable for us to separately identify the amount of amortization and depreciation by segment that is included in the measure of segment profit or loss.

Long-lived assets, excluding financial instruments and tax assets, classified by the location of the controlling statutory company and with countries over 10% of the total shown separately, were as follows:

 

(In millions)

 

 

 

 

 

 

 

 

 

 

June 30,

 

2018

 

 

2017

 

 

2016

 

 

 

 

 

United States

 

$

44,501

 

 

$

42,730

 

 

$

25,145

 

Ireland

 

 

12,843

 

 

 

12,889

 

 

 

2,099

 

Luxembourg

 

 

6,856

 

 

 

6,854

 

 

 

6,868

 

Other countries

 

 

15,682

 

 

 

13,044

 

 

 

11,047

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Total

 

$

79,882

 

 

$

75,517

 

 

$

45,159

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

95


PART II

Item 8

 

NOTE 22 — QUARTERLY INFORMATION (UNAUDITED)

 

(In millions, except per share amounts)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Quarter Ended

 

September 30

 

 

December 31

 

 

March 31

 

 

June 30

 

 

Total

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fiscal Year 2018

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Revenue

 

$

24,538

 

 

$

28,918

 

 

$

26,819

 

 

$

30,085

 

 

$

110,360

 

Gross margin

 

 

16,260

 

 

 

17,854

 

 

 

17,550

 

 

 

20,343

 

 

 

72,007

 

Operating income

 

 

7,708

 

 

 

8,679

 

 

 

8,292

 

 

 

10,379

 

 

 

35,058

 

Net income (loss) (a)

 

 

6,576

 

 

 

(6,302

)

 

 

7,424

 

 

 

8,873

 

 

 

16,571

 

Basic earnings (loss) per share

 

 

0.85

 

 

 

(0.82

)

 

 

0.96

 

 

 

1.15

 

 

 

2.15

 

Diluted earnings (loss) per share (b)

 

 

0.84

 

 

 

(0.82

)

 

 

0.95

 

 

 

1.14

 

 

 

2.13

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Fiscal Year 2017 (c)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Revenue

 

$

21,928

 

 

$

25,826

 

 

$

23,212

 

 

$

25,605

 

 

$

96,571

 

Gross margin

 

 

14,084

 

 

 

15,925

 

 

 

15,152

 

 

 

17,149

 

 

 

62,310

 

Operating income

 

 

6,715

 

 

 

7,905

 

 

 

6,723

 

 

 

7,682

(d) 

 

 

29,025

(d)

Net income

 

 

5,667

 

 

 

6,267

 

 

 

5,486

 

 

 

8,069

(d)

 

 

25,489

(d)

Basic earnings per share

 

 

0.73

 

 

 

0.81

 

 

 

0.71

 

 

 

1.05

 

 

 

3.29

 

Diluted earnings per share

 

 

0.72

 

 

 

0.80

 

 

 

0.70

 

 

 

1.03

(d)

 

 

3.25

(d)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(a)

Reflects the net charge (benefit) related to the TCJA of $13.8 billion for the second quarter, $(104) million for the fourth quarter, and $13.7 billion for fiscal year 2018.

(b)

Reflects the net charge (benefit) related to the TCJA, which decreased (increased) diluted EPS $1.78 for the second quarter, $(0.01) for the fourth quarter, and $1.75 for fiscal year 2018.

(c)

On December 8, 2016, we acquired LinkedIn Corporation. LinkedIn has been included in our consolidated results of operations starting on the acquisition date.

(d)

Includes $306 million of employee severance expenses primarily related to our sales and marketing restructuring plan, which decreased operating income, net income, and diluted EPS by $306 million, $243 million, and $0.04, respectively.

 

 

96


PART II

Item 8

 

REPORT OF INDEPENDENT REGISTERED PUBLIC ACCOUNTING FIRM

To the Stockholders and the Board of Directors of Microsoft Corporation

Opinion on the Financial Statements

We have audited the accompanying consolidated balance sheets of Microsoft Corporation and subsidiaries (the “Company”) as of June 30, 2018 and 2017, the related consolidated statements of income, comprehensive income, stockholders’ equity, and cash flows, for each of the three years in the period ended June 30, 2018, and the related notes (collectively referred to as the “financial statements”). In our opinion, the financial statements present fairly, in all material respects, the financial position of the Company as of June 30, 2018 and 2017, and the results of its operations and its cash flows for each of the three years in the period ended June 30, 2018, in conformity with accounting principles generally accepted in the United States of America.

We have also audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States) (“PCAOB”), the Company's internal control over financial reporting as of June 30, 2018, based on criteria established in Internal Control — Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission and our report dated August 3, 2018, expressed an unqualified opinion on the Company's internal control over financial reporting.

Change in Accounting Principles

As discussed in Note 1 to the financial statements, the Company has changed its method of accounting for revenue from contracts with customers and for accounting for leases in fiscal year 2018 due to the adoption of the new revenue standard and new lease standard, respectively. The Company adopted the new revenue standard using the full retrospective approach and adopted the new lease standard using a modified retrospective approach.

Basis for Opinion

These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on the Company’s financial statements based on our audits. We are a public accounting firm registered with the PCAOB and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement, whether due to error or fraud. Our audits included performing procedures to assess the risks of material misstatement of the financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the financial statements. We believe that our audits provide a reasonable basis for our opinion.

/s/ DELOITTE & TOUCHE LLP

Seattle, Washington

August 3, 2018

We have served as the Company’s auditor since 1983.

 

 

97


PART II

Item 9, 9A